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Edited Transcript of EQH.N earnings conference call or presentation 9-Aug-19 12:00pm GMT

Q2 2019 Axa Equitable Holdings Inc Earnings Call

Aug 15, 2019 (Thomson StreetEvents) -- Edited Transcript of Axa Equitable Holdings Inc earnings conference call or presentation Friday, August 9, 2019 at 12:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Anders Bjorn Malmström

AXA Equitable Holdings, Inc. - Senior EVP & CFO

* Kevin Molloy

AXA Equitable Holdings, Inc. - Head of IR

* Mark Pearson

AXA Equitable Holdings, Inc. - President, CEO & Director

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Conference Call Participants

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* Andrew Scott Kligerman

Crédit Suisse AG, Research Division - MD & Senior Life Insurance Analyst

* Elyse Beth Greenspan

Wells Fargo Securities, LLC, Research Division - VP and Senior Analyst

* Ian James Ryave

BofA Merrill Lynch, Research Division - Research Analyst

* Ryan Joel Krueger

Keefe, Bruyette, & Woods, Inc., Research Division - MD of Equity Research

* Suneet Laxman L. Kamath

Citigroup Inc, Research Division - MD

* Taylor Alexander Scott

Goldman Sachs Group Inc., Research Division - Equity Analyst

* Thomas George Gallagher

Evercore ISI Institutional Equities, Research Division - Senior MD

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Presentation

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Operator [1]

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Good day. My name is Jack, and I'll be your conference operator. At this time, I would like to welcome everyone to the AXA Equitable Holdings Second Quarter 2019 Earnings Call. (Operator Instructions)

Kevin Molloy, Head of Investor Relations, you may begin your conference.

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Kevin Molloy, AXA Equitable Holdings, Inc. - Head of IR [2]

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Good morning, and welcome to AXA Equitable Holdings Second Quarter 2019 Earnings Call. Materials for today's call can be found on our website at ir.axaequitableholdings.com.

Before we begin, I would like to note that some of the information we present today is forward-looking and subject to certain SEC rules and regulations regarding disclosure. Our results may materially differ from those expressed in or indicated by such forward-looking statements. So I'd like to point out the safe harbor language on Slide 2 of our presentation. You can also find our safe harbor language in our 10-Q.

Joining me on today's call is Mark Pearson, President and Chief Executive Officer of AXA Equitable Holdings; Anders Malmström, our Chief Financial Officer; and also on the line is John Weisenseel, AllianceBernstein's Chief Financial Officer.

During this call, we will be discussing certain financial measures that are not based on generally accepted accounting principles, also known as non-GAAP measures. Reconciliations of these non-GAAP measures to the most directly comparable GAAP measures and related definitions may be found on the Investor Relations portion of our website, in our earnings release, slide presentation and financial supplement.

I would like to now turn the call over to Mark and Anders for their prepared remarks.

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Mark Pearson, AXA Equitable Holdings, Inc. - President, CEO & Director [3]

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Thank you, Kevin, and good morning, everyone. Thank you for joining the call today. This morning, I'd like to begin by sharing some key highlights from our second quarter performance as well as give an update on progress against our strategic priorities and financial targets.

Before moving to the numbers, I'll start with some context around current capital market conditions and provide an update on more recent company developments.

During the second quarter of 2019, we again saw a mixed picture in the macroeconomic environment. Equity markets continued to gain and provide favorable tailwinds with an S&P 500 rising 4% in the quarter.

Meanwhile, treasury yields continued to weaken with the 10-year declining by over 40 basis points in the quarter or nearly 70 basis points year-to-date. While it's no secret that higher rates are better for the interest rate-dependent segments of our business, the real impact is felt by Americans. We now need to save more in the low interest rate environment to secure their income in retirement. This, of course, is our business, and we are dedicated to educating and finding solutions for our clients. However, in this environment, much of our new business is not interest rate-sensitive. For example, our buffered annuity SCS comprises of a 60% of our new VA sales and is not linked to interest rates.

The second quarter of 2019 also marked another important milestone in our continuing planned separation from AXA, which just completed its third secondary offering reducing its ownership stake to 38.9%. Our balance sheet today remains robust and well protected with an RBC ratio of approximately 675% at the half year and capitalization levels in excess of CTE98 for our variable annuity business.

With the strength of our balance sheet and strong cash flows from our operating subsidiaries, we are delivering on the commitment we made to return 50% to 60% of non-GAAP operating earnings to shareholders.

With $73 million in cash dividends paid out in the second quarter, we have returned nearly $900 million to shareholders through the first half of the year. In addition, we recently upstreamed $1 billion from our life insurance subsidiary in July, further reflecting our financial flexibility and the continued confidence we have in our expectations for operating cash flows.

And as Anders will present later, we've refreshed a 3-year distributable earnings and lifetime cash flow projections for our variable annuity business, which we originally presented at the time of the IPO. As you will see in a few moments, these projections have remained quite stable and continued to illustrate that our VA portfolio generates significant cash flows even in adverse scenarios and are expected to remain robust post-NAIC VA reform.

Turning now to Slide 4 and a summary of our performance in the second quarter of 2019. We delivered another quarter of strong results improving non-GAAP operating earnings by 15% to $559 million reflecting operating performance across our segments and continued execution against our long-term strategic objectives. This translates to $1.14 in non-GAAP operating earnings per share, a 31% increase over the comparable quarter from last year aided by substantial share repurchases made possible by our capital management program.

Contributing to these results and the positive momentum we are generating across the business is the strength, diversity and performance of our business segments.

Beginning with Individual Retirement, our leading distribution platform, continues to accelerate sales growth with $2.1 billion in first year premiums representing a 12% increase on the prior year quarter.

In addition to recording the highest ever quarter for sales in our Structured Capital Strategies product, we also reported our best quarter in terms of total sales in over a decade.

We believe these achievements speak to the strength of our distribution network, diversity of our capital life product portfolio and our ability to consistently meet the evolving requirement needs of our clients.

In Group Retirement, operating earnings increased by 23% to $95 million as continued net inflows and market growth drove account values higher. Net inflows also improved to a $164 million, again demonstrating the strength and consistency of this business.

AllianceBernstein continues to deliver differentiated returns for clients through its diverse product set. The second quarter marked the fourth consecutive quarter of positive net flows with $9.5 billion in total net inflows driven by $10.2 billion in active net inflows.

On a year-to-date basis, AB delivered its best first half in more than a decade with $12.3 billion of active net inflows translating to a 5.4% annualized organic growth rate. With momentum in active equities, a pickup in fixed income and growth across the diverse base, we continue to scale and commercialize our offering while remaining focused on expense management and executing on the relocation to Nashville.

For our Protection Solutions segment, we reported a strong increase in operating earnings to $106 million. The growth outlook and stability of this business continues to improve. And even with several favorable drivers contributing to this quarter's results, the core performance remains solid.

From a top line perspective, we're already seeing positive near-term sale trends in our life business despite the down quarter, and we continue to drive traction in our employee benefits business, where annualized premiums increased by over 30% from the prior year quarter.

For the total company, we generated a non-GAAP operating ROE of 15.9% for the quarter, an attractive result in line with our mid-teens target. And on a consolidated basis, assets under management stood at $691 billion as of June 30, 2019.

This quarter represented a continuation of the strong start to the year for AXA Equitable Holdings with good momentum across our businesses, positive outcome for our clients and consistent delivery on our commitments to shareholders.

Turning to Slide 5, we are now at the halfway point of the 3-year aspirational targets we set at the time of our IPO. Through our general account optimization initiative, we have achieved a $125 million towards our stated $160 million goal. In terms of execution and despite the interest rate decline, we expect to complete the rebalance by the end of this year and remain on track to realize the $160 million uplift by year-end 2020.

From a productivity standpoint, we made meaningful progress reducing net costs in our insurance business in the second quarter achieving $44 million of total cumulative run rate savings as of quarter end.

Overall, we remain on track to deliver on our $75 million pretax target, net of reinvestment and expect to end the year at approximately this level before recognizing the remaining productivity gains throughout 2020.

From a growth standpoint, the strength and momentum we are driving in each of our 4 business segments continue to give us confidence in our ability to achieve our targets and generate sustainable organic earnings growth and attractive levels of capital deployment over time.

I would now like to turn the call over to Anders to go through our results on the second quarter in more detail. Anders?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [4]

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Thank you, Mark, and good morning, everyone. On Slide 6, I will review our consolidated results for the quarter before providing more details on segment results, our updated variable annuity cash flow projections and our capital management program.

As Mark noted, we reported strong second quarter results with non-GAAP operating earnings of $559 million, up 15% from the prior year quarter or 31% on a per-share basis as the impact from our share repurchases program has reduced outstanding shares by over 12% since the IPO. This growth was primarily attributable to higher net investment income due to the impact of higher asset balances and our general account portfolio optimization, lower DAC amortization and ongoing productivity improvements. GAAP net income was $363 million, up from a $164 million in the prior year quarter.

As with previous quarters, driving the difference between this figure and non-GAAP operating earnings are primarily noneconomic items related to VA product features. This includes the impact of our hedging program, which again performed as expected in the mixed macro environment amidst declining interest rates and moderate equity gains.

We are attentive to the level of rates and routinely adjust our new business pricing to remain close to market conditions and hedge interest rate-related exposures.

In addition, the long-term rate assumption for our SOP reserves on the GAAP is 3.45%. Total company assets under management ended the quarter at $691 billion, increasing 5% versus the prior year quarter and 12% since the end of 2018.

And finally, non-GAAP operating ROE increased 230 basis points to 15.9% driven by strong operating earnings growth over the past 12 months. This level of ROE remains in line with our mid-teens objective.

Moving on to the business segment. I will begin with Individual Retirement on Slide 7.

Operating earnings of $359 million were down versus the prior year quarter as an increase in net investment income on higher SCS account balances and improvements in GMxB results were offset primarily by lower fee-type revenue as a result of lower separate account balances, higher interest credited and an increase in DAC amortization primarily due to the new SCS accounting methodology we introduced last quarter, which should reduce the volatility of DAC going forward.

For the full impact of these changes to previous quarters, please refer to our financial supplement and 10-Q.

In the quarter, we continued to drive positive sales momentum with first year premiums up 12% year-over-year to their highest level in over decade. Products without living benefits represented over 75% of new sales led by sales of our Structured Capital Strategies product, which increased 30% year-over-year and hit record levels for the second straight quarter.

Our focus on differentiated distribution has enabled us to continue driving disciplined growth of capital life products and has substantially changed our mix of business over the past decade. Account values increased by approximately $1.2 billion year-over-year driven primarily by equity market appreciation. Net flows also improved year-over-year as outflows from the matured fixed rate block were partially offset by $845 million of net inflows on our current product offering of less capital-intensive product.

Moving to the Group Retirement segment on Slide 8. We reported operating earnings of $95 million, up 23% from the prior year quarter primarily due to higher net investment income driven by higher average account values and continued execution of our GA optimization initiative. We are also executing against our productivity target, which decreased operating expenses during the quarter. Account values increased $1.4 billion year-over-year due to market appreciation and continued net inflows.

Net inflows, which are traditionally strongest in the first 2 quarters of the year, improved over the prior year quarter driven by strong gross premiums and lower surrenders. Looking ahead to the third quarter, we anticipate the usual flows seasonality as contributions decelerate over the summer months.

Gross premiums also improved on a year-over-year basis from $885 million to $910 million driven by growth in both first year and renewal contributions enabled by our continued focus on driving deeper plan penetration and increasing contributions through client-engagement programs linked to our workplace advice model.

Finally, segment operating return on capital improved from 27.5% to 32.1% driven primarily by strong earnings growth over the trailing 12 months.

Now turning to Investment Management and Research, which is AllianceBernstein on Slide 9.

Operating earnings decreased to $80 million from $97 million in the prior year quarter primarily driven by lower revenues due to higher performance fees in the prior year quarter following adoption of the new revenue recognition standard, ASC 606 and higher operating expenses partially offset by higher base fees.

Net inflows of $9.5 billion were positive for the fourth straight quarter and were driven by $10.2 billion of active net inflows. On a year-to-date basis, $12.3 billion of active net inflows translates to a 5.4% annualized organic growth rate, which represents AB's best first half in more than a decade.

Average fee rates in the second quarter remains stable year-over-year and increased slightly on a sequential basis despite ongoing headwinds facing the industry. And as Mark pointed out earlier, AB's second quarter results reflect solid underlying momentum in several areas of the business.

In retail, gross sales reached record level and net inflows reached its highest level in 19 years as AB continued to see diverse array of funds attracting assets, specifically 21 funds across asset classes attracted more than a $100 million of net flows in the quarter and 52 retail products had assets over $1 billion at quarter end.

In addition, AB continues to diversify and grow its institutional pipeline and drive organic growth in active equities.

Finally, AB's adjusted operating margin was 25.1%, up a 100 basis point sequentially, but down from 27.3% in the prior year quarter primarily due to Nashville relocation expenses, lower performance-based fees and higher comp ratio. Despite headwinds, we continue to believe that AB is a 30% plus margin business. And with expense actions, such as the relocation to Nashville underway, we are confident that this is an attainable long-term objective.

Moving to Protection Solutions on Slide 10, where we reported strong operating earnings of a $106 million for the quarter. We realized this is a much stronger result than you may have been expecting that is the result of several items all moving in the same direction this quarter.

Driving earnings was higher net investment income from higher asset balances and our GA optimization initiative; lower DAC amortization following our exit from loss recognition in the third quarter of 2018; and improved expenses, which included a onetime release of a litigation reserve of a $11 million. The benefit ratio also improved to 64.8% from 68.2% into prior year quarter primarily reflecting higher revenues from our GA optimization.

Overall, we delivered solid operating performance in the quarter and maintained a positive and improving outlook on the business going forward with an upward bias to our prior $50 million guidance subject to mortality variability.

Concluding with sales, annualized premiums declined year-over-year from $67 million to $63 million partially offset by strong sales growth in our employee benefits business. While life sales dropped off slightly compared to the second quarter of 2018, the quarter ended strongly, and we are seeing positive near-term momentum in the business.

Turning to Slide 11. I would like to take a moment to present a post-VA reform refresh of the next 3 years forecasted distributable earnings, and also the lifetime cash flow projections for our variable annuity portfolio. As a note, this year begins with the 2019 calendar year and includes actual results from the first quarter of 2019.

And as with prior disclosure, these illustrations have no assumption as to future new business. Because of the strength of our reserves, assumptions relative to NAIC and our robust hedging program, you will see that our VA portfolio continues to generate significant cash flows even in adverse scenarios. And as you will see on the page, the new projections remain largely in line with our previous disclosure post the impact of NAIC VA reform.

To illustrate this, I point you to the green bars on the page, which represent our updated projections. Focusing on the left side in our base case, we assume an equity return of 6.25% per annum and a 10-year treasury rates will follow the forward curve, unchanged from our prior disclosure. Under this scenario, we will generate $5.2 billion of distributable cash flows during the period from 2019 to 2021, up from the $4.1 billion we previously reported.

Driving this favorable change are 2 key items: first, rolling forward the projection period to the first quarter of 2019 dropping 2018 and adding 2021 distributable earnings reduces cash by approximately $400 million. And second, the impact from VA reform was net positive in the amount of $1.5 billion on our 3-year distributable earnings. We were well positioned for VA reform due to our existing hedging program mitigating the lower long-run NAIC interest rate target and our policy of the behavior assumptions being brought in line with the new standard.

Based on this positioning, our projections reflect a onetime reduction in initial capital requirements due to our hedging strategy partially offset by increased hedging costs as a result of greater market sensitivity in the post-VA reform liability.

Moving now to the lifetime cash flows in our base case, we project a present value of $11.9 billion, down from the $12.9 billion previously reported in 2018. Driving this change is primarily a $1.1 billion impact from VA reform due to the more market-sensitive framework requiring additional hedging.

In summary, our existing hedging strategy and assumptions positioned us well for the impact of VA reform. Looking ahead, our distributable earnings over the next 3 years and lifetime cash flows remain robust across a wide range of scenarios, driving conviction in our ability to continue to generate cash and create long-term value for shareholders.

Additionally, going forward, we will continue to evaluate opportunities as appropriate to further reduce the volatility of returns.

And finally, as a general practice, we may evaluate our future VA cash flow disclosure by the methodology used until now was valuable for the benefit of comparability with recent listed peers, we do think there are more complete ways of looking at the cash flows of our business at a total company level.

Before turning the call back to Mark for his closing comments, I would like to highlight our capital management program outlined on Slide 12.

During the quarter, we returned $73 million to shareholders in the form of our quarterly common cash dividend reflecting $0.15 per share or 15% from the prior quarter. On a year-to-date basis, we've returned $891 million, which includes $141 million in cumulative quarterly dividends, $600 million in share repurchases from AXA in conjunction with the March secondary offering and $150 million as part of an accelerated share repurchase agreement entered in January.

Taken together, this already places us well on track to deliver on our target payout ratio of 50% to 60% of non-GAAP operating earnings in 2019. And following the $600 million share repurchase in March, we currently have $200 million remaining on our existing share repurchase program.

Keeping with prior guidance, we will aim to primarily repurchase shares from AXA as it continues to execute on its stated intention to sell down while also being opportunistic in the open market. Supporting this capital management program is the strength of our balance sheet and robust operating cash flows.

In July, we upstreamed $1 billion from our life operating subsidiary to the holding company in addition to the quarterly AB distribution enhancing our capital position and financial flexibility in anticipation of the continuation of our capital management program for the remainder of 2019 and into 2020.

Further, as of June 30, our estimated combined RBC ratio was approximately 675% and our debt-to-capital ratio was 25.8%, both in line with our stated targets.

With that, I will turn the call back to Mark for closing remarks.

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Mark Pearson, AXA Equitable Holdings, Inc. - President, CEO & Director [5]

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Thanks, Anders. Before taking your questions, I'd like to close by reiterating our strong results and some of the highlights from the second quarter. We continue to generate strong performance across the mixed market and macro environment and have accelerated momentum in each of our business segments. We continue to make significant progress against our strategic priorities and remain confident we will achieve our 2020 targets. We are delivering meaningful capital returns to our shareholders with nearly $900 million in dividends and share repurchases through the first half of the year and have illustrated that our businesses have and will continue to generate significant cash flows across a wide range of market environments.

Importantly, AXA Equitable Holdings continues to deliver on the shareholder commitments we articulated at the time of our initial public offering 15 months ago.

As one of the largest independent publicly-traded financial services companies in the country, we are driving strong performance and continued momentum across our business segments for the benefit of our many clients and stakeholders.

In achieving these strong results, we are enabling substantial capital generation to invest in the continued growth of our businesses and deliver consistent, attractive level of capital returns for our shareholders.

With that, we'll open it up for Q&A.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Tom Gallagher with Evercore.

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Thomas George Gallagher, Evercore ISI Institutional Equities, Research Division - Senior MD [2]

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First question, Anders, you mentioned, I think, it was 3.45% is the long-term interest rate assumption under GAAP SOP. That's a bit lower than most other companies in the industry, but it's above current interest rate levels. What -- any perspective on whether or not you might change that assumption heading into your 3Q balance sheet review?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [3]

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Tom, yes, so look, I think, first of all, our long-term rate, as you said, is 3.45%. I think that's -- if you compare that with the industry, I think that's a quite conservative assumption. Obviously, rates right now are lower. We are going right now through the process and see what we have to update them, and we're going to update that in Q3.

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Thomas George Gallagher, Evercore ISI Institutional Equities, Research Division - Senior MD [4]

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Got it. And then the -- just on the distributable cash flow update. So that got a bit better under all the scenarios over a 3-year basis. I know you mentioned the 50% to 60% capital return target. Does this change your view now there's differences between capital return and actual free cash flow you generate? Does this change your view of what that ratio is in terms of capital generation? And would it be north of the 50% to 60%, which would maybe leave you a buffer or maybe allow you to raise that 50% to 60% capital return target at some point?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [5]

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Look, I think -- I mean first of all, I mean talking about the VA cash flows and -- the main message we want to give here is, I think we are on track. I think the NAIC reform doesn't have a meaningful impact on our ability to generate cash. But it's actually a more economic framework that we really like. But I would say, it really confirms our long-term view that we can return 50% to 60% of our operating earnings. It's really a confirmation that we are well on track there.

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Operator [6]

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Elyse Greenspan with Wells Fargo.

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Elyse Beth Greenspan, Wells Fargo Securities, LLC, Research Division - VP and Senior Analyst [7]

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My first question kind of building up on the capital return. You guys have $200 million left under your authorization for this year. You did just upstream a good amount in July. So just trying to get a sense if there are some offerings from AXA? Will there be the ability to maybe go above that 50% to 60% level this year if you want to kind of pull forward some buybacks that maybe you had in mind for next year? Or just how are you thinking about buybacks and a little more color in the second half of the year?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [8]

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Yes. So look, I mean -- first of all, I mean many things here that come together. So first of all, we have $200 million left from our authorizations, which brings us pretty much in line with the overall target of 50% to 60%. As you know, we paid out most of it, but $200 million is still a sizable number.

And secondly, as you said, we upstreamed another $1 billion in July from our operating entities -- entity. As you know, I mean this is annual process usually, usually midyear, and so this amount of money now basically helps us -- -- our capital management for the next 9 months. So really way into 2020. So I think it's really a confirmation that we can continue with our capital management program.

Now to your question about AXA, we don't know what their plans are. We know that they want to go out completely and we want to support them. And I think that's why we always said that the majority of the buyback capacity we're going to use with AXA, but we also use it as opportunistically in the open market.

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Elyse Beth Greenspan, Wells Fargo Securities, LLC, Research Division - VP and Senior Analyst [9]

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Okay. Great. And then in Protection, pretty strong quarter. You had mentioned kind of there was an upward bias to kind of the prior $50 million or so of earnings that you were targeting on a quarterly basis, could you just give us a sense of kind of where you see the earnings of that segment coming in now on a quarterly basis?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [10]

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Yes. Look, I think, first of all, in the past, we always guided you to around $50 million. What you clearly see here now is that the GA optimization and our expense management is really coming through. Now as we told you, it's not a $100 million in the long run, but it's going to be higher than the $50 million that we previously said, really because the actions are coming through. In addition, we have a good mortality result in Q2.

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Operator [11]

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Andrew Kligerman with Crédit Suisse.

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Andrew Scott Kligerman, Crédit Suisse AG, Research Division - MD & Senior Life Insurance Analyst [12]

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Anders, I guess, I just -- I'm unclear on your commentary. You said we want to support them with AXA, so should I take that to mean if they were to come out and do a sizable offering, you would consider materially greater buyback, not committing to anything but you would consider materially higher buyback than the $200 million that you have authorized?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [13]

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Look, I think, what I can confirm you is that I have the cash now for the next 9 months, we have it in-house. I think that's what I can tell you today. We have authorization of $200 million, but we actually have the cash for the next 9 months. And I think that's the situation we are in right now.

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Andrew Scott Kligerman, Crédit Suisse AG, Research Division - MD & Senior Life Insurance Analyst [14]

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Got it. All right. I'll read what I want to read into that one. And -- all right. The Group Retirement business, where I think the bulk of it is 403(b), I -- in our model, we kind of noticed a point or 2 -- a basis point or 2 downtick in fee income. And yes, flows were positive this quarter, but next quarter, you mentioned, Anders, the seasonality, so maybe -- and the year kind of flattish. So what I'm interested in is the competitive environment in Group Retirement? Is there a pressure on those 403(b) fees? That's number one.

And number two, do you think there is an opportunity here to get the positive flows? Or is it just too pressurized?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [15]

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Maybe, Mark, you want to take that question?

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Mark Pearson, AXA Equitable Holdings, Inc. - President, CEO & Director [16]

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Yes. Andrew, it's Mark Pearson here. Look, the 403(b) business for the last 6, 7 years is end of the year positive. You're right, there is some seasonality in quarter 3, but we've had a good first half of the year. In terms of pressure, I think, it's about to understand the business model here. It's very much positioned where it's a difficult to get to market. We have something like 8,000-plus school districts where we'll be a preferred provider there. We have a national sales force of 1,000-plus advisories dedicated to giving advice at the worksite. So we wouldn't say that we are seeing margin pressure in that business today. And we have a very strong position. As you know, we're #1 nation-wide in the K-12 educated markets. So I think it's the business model that kicks the extra margins rather than suffering from undue competitive pressure.

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Operator [17]

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Ryan Krueger with KBW.

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Ryan Joel Krueger, Keefe, Bruyette, & Woods, Inc., Research Division - MD of Equity Research [18]

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When I look at the cash flow scenarios and compare the 3-year distributable earnings to the lifetime cash flows and assets, the -- I guess if you look at the 3-year number tends -- in most of the scenarios, is around 40% of the lifetime total, it seems pretty high. So I was just wondering if you could piece together, I guess, the disconnect there, why would -- why is that 3-year distributable earnings such a large percentage of the lifetime cash flows?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [19]

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Yes. Look, I think the -- I mean the main reason really is that these are 2 different methodologies that you -- that we actually look at. The 3 years is really what we call distributable earnings and then the lifetime is discounted. So there is a different methodology. But I think what it tells you is that, I think, the business is actually generating significant cash flows throughout the lifetime of the book. And I think that's what you probably would expect from a runoff book that it generates some cash flows up from.

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Ryan Joel Krueger, Keefe, Bruyette, & Woods, Inc., Research Division - MD of Equity Research [20]

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Got it. And then a couple of quick ones. The 3.45% SOP discount rate, do you -- is that -- do you assume a spread on top of that, like a risks spread or is that the actual discount rate being used?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [21]

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No. This is our reversion to the mean assumption on the SOP for the 10-year treasury.

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Ryan Joel Krueger, Keefe, Bruyette, & Woods, Inc., Research Division - MD of Equity Research [22]

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Got it. And then...

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [23]

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That's really the underlying assumption that goes into the SOP reserve.

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Ryan Joel Krueger, Keefe, Bruyette, & Woods, Inc., Research Division - MD of Equity Research [24]

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And then just last one. Can you disclose what the mean reversion interest rate assumption you're now using under NAIC VA reform? I know you gave us the cash flows under different scenarios, but what the actual mean reversion is -- interest rate assumption is in the CTE98 calculation now?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [25]

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Right. So the -- under the new NAIC VA reform, you have the mean reversion but it's actually a moving average that's predefined by the NAIC. And as of now, it's 3.5%. And I think it will also stay by the end of the year, 3.5%. So even if rates move, it will not change the mean reversion assumption.

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Operator [26]

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Suneet Kamath with Citi.

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Suneet Laxman L. Kamath, Citigroup Inc, Research Division - MD [27]

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I want to go back to the present value of cash flows of the VA business. It looks like based on the appendix, the VA assets of $15.1 billion are quite a bit higher than where they were, I think, at the end of '17, which was $12.6 billion. I want to understand what caused that change? And also I was on the impression that you're already at peak reserves there, so I want to understand if the $15.1 billion is assuming -- if you're assuming that will be kind of flat from here on out?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [28]

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Right. So I think that most importantly, I think, we all have to understand that the CTE number itself is very market-dependent, so -- and the difference really from what we showed you in the S-1 to what we show you today is really market. And the up and down gets then supported by the hedging program. So if you have, let's say, drop in equity, you have an increase in your CTE, you get that funded by the hedging program. So the difference is really, really, really market.

When we say it is at peak TAR, it means if you don't see any change in market, it reduces over the lifetime of the policy. But note, if you actually see a market change, then obviously it can go up and down even over the next many, many years.

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Suneet Laxman L. Kamath, Citigroup Inc, Research Division - MD [29]

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So what you're saying is the move from $12.6 billion to $15.1 billion is that's just pure mark-to-market on the hedges, there is no additional assets or capital that you guys are using to back the VA business away from hedge marks?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [30]

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Correct.

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Suneet Laxman L. Kamath, Citigroup Inc, Research Division - MD [31]

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Okay. And then Anders, I think, in your prepared remarks, you talked about maybe some changes that you'd be making to this VA cash flow disclosure? Can you just give us a little insight in terms of what you're thinking there?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [32]

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Yes. Look, I think, first of all, when we updated the cash flows here, we said let's just do one more time these cash flows because they were out, people have an understanding and that show that the impact of the NAIC reform is not material to the cash flow generation. I personally don't think it's -- in particular, the lifetime, I don't think it's the right way to look at cash flows. I would rather have a more kind of real-world embedded value approach when we talk about cash flows for the full business and not just looking at the VAs. So that's how we think about that going forward. But here really, we wanted to compare the old cash flows of the VA reform, show some -- show that it's really -- it didn't have a material impact, but going forward, we really have to talk about real cash flows.

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Suneet Laxman L. Kamath, Citigroup Inc, Research Division - MD [33]

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And so you're saying, you at the company -- for the company as a whole as opposed to just the individual and group VA businesses?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [34]

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Right. So we're going to come back with how we want to talk about, but basically, that's it. Yes.

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Operator [35]

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Alex Scott with Goldman Sachs.

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Taylor Alexander Scott, Goldman Sachs Group Inc., Research Division - Equity Analyst [36]

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First question I had was just on the added, I guess, note in the press release and in your comments that you might assess opportunities to reduce volatility. I'd just be interested in what's kind of -- is that -- should I read that as a change in approach or an increased interest and potential solutions to unlock the value of these cash flows in the variable annuity business? And what type of things could you potentially do?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [37]

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Yes. Alex, so I think what we showed here is, when we looked at the VA cash flows is that actually the new framework is more sensitive to markets, but at the same time, it recognizes more the actual hedging. I think that was an important point here. So we actually have a very, I think, I would say, very good hedging program in place. And we see that, that it now gets better recognized in the new framework, but it's still more sensitive to market. So what we are thinking is how can we update the hedging program to take away some of that sensitivity after the VA reform. Because right now, we assume the same hedging strategy as we have today. So we didn't incorporate any changes in hedging strategy.

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Taylor Alexander Scott, Goldman Sachs Group Inc., Research Division - Equity Analyst [38]

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Got it. And so that would, in general -- would that reduce the cash flows by adding costs associated with adding hedges? Or I guess the other piece of it is the SCS product you're writing. Could you talk about how adding the incremental AUM there can help us hedge offset. I think that, that probably helps you with effectively getting -- put options out of the money?

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Anders Bjorn Malmström, AXA Equitable Holdings, Inc. - Senior EVP & CFO [39]

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Yes. Right. I think 2 things. First of all, I mean as you know, our majority of the hedging program is really a dynamic program. So there is no explicit cost related to that. And we really just have the statutory overlay, where we have option cost and the thinking is more, in particular, under the base case if you do more dynamic hedging that could, in a way, reduce volatility. But I think it's too early to say what we're going to do exactly. I think that's an interesting concept to use kind of a natural hedging in our portfolio. And I think SCS is a good product where you actually see a natural offset with the other products that will help going forward and that scenario we're going to go deeper and then make a decision how we want to implement that.

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Operator [40]

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Jimmy Bhullar with JPMorgan.

Ian Ryave with Bank of America.

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Ian James Ryave, BofA Merrill Lynch, Research Division - Research Analyst [41]

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I just wanted to ask a few on sales. So the SCS product has done pretty well. You had the strongest sales quarter. First, how does it -- and how do you vision the competitive environment as other companies get into this product category? And then also on the interest rates that have come down, the equity market volatility, how does -- how do you think demand could be impacted?

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Mark Pearson, AXA Equitable Holdings, Inc. - President, CEO & Director [42]

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Ian, it's Mark Pearson. Yes, as you said we had our strongest quarter ever in SCS despite the competition. Yes, we see competition coming in, but what we like to say is, I think we have to think about not just the product, the product is easily copied, but the distribution model we had really, really is a competitive advantage for us. I mean a couple of things on there. We have affiliated sales force, AXA Advisors. We get something like 90% on all our annuity sales. So when they're doing well, it comes through. And we have a very broad range of distribution partners, ranging from wirehouses where everybody is doing, but also banks and partnerships with insurance companies. And that's really a strength of ours, the sort of premier distribution channel that we have. So it's not just a question of can people copy us, that's easy to do, but trying to get our distribution reach is really coming through in terms of us, increasing our sales and increasing market share despite the competition. So that's really where we are.

Interest rates. As you quite rightly said, I mean the bigger seller, SCS, is noninterest rate-dependent, and as we said in the opening comments, I mean if you really think about the low interest rates as we're seeing now is really the main challenges for the American public in terms of saving through the time. They simply need to save more to secure the income and within the time. And it's really for us and our industry to find a solution. So that's how we approach it.

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Ian James Ryave, BofA Merrill Lynch, Research Division - Research Analyst [43]

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Okay. And then on employee benefits, obviously, there is some positive industry trends, underwriting expenses that I would consider that to be pretty accommodative to grow this business rather quickly. We should consider the backdrop to be rather positive for growing this business. And I guess where do you envision the employee benefits kind of contributing to Protection Solutions results from a bottom line standpoint?

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Mark Pearson, AXA Equitable Holdings, Inc. - President, CEO & Director [44]

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Yes. Ian, we agree with you. We like the business. I think, as you know, from a standing stock, we've gone out with a very good technology platform that's our angle. We also had the ability to market into the segment of the market, which is 500 employees and below that has been the margins for us as well. And we're really pleased with the progress. We have something like 300,000 clients there now. So very good progress from a standing stock. In terms of coming through in earnings, we won't see anything significant by the end of 2020, the guidance we've given you. But this is really a business where we're happy to be and the conditions are good, and it's a medium- to long-term growth play for us.

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Operator [45]

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This concludes the question-and-answer session and the AXA Equitable Holdings Second Quarter 2019 Earnings Call. We thank you for your participation. You may now disconnect.