How market value adjustments (MVAs) work
Financial institutions offering guaranteed interest investments are at an investment risk and suffer expense losses on early termination of these investments. Therefore, the market value adjustments are necessary to ensure money is not lost.
A Market Value Adjustment will occur whenever funds are withdrawn from a guaranteed interest investment prior to its maturity date. This may decrease the value to less than the original investment amount.
The MVA definition for Superflex/Income Master policies can be found on the back of the application.
The MVA definition for Sun GIC Max/GIC contracts can be found on the back of the application.
Are market value adjustments unique to Sun Life?
No. Adjustments of various sorts are used by all financial institutions. It's important Clients understand MVAs can be significant.
How can you best deal with market value adjustments?
Don't let Clients put money into a guaranteed interest investment for a period extending beyond the foreseeable time the money will be needed.
Note: Money in the Daily Interest Investment can be withdrawn at anytime with no MVA.
How are market value adjustments calculated?
There are three parts to our market value adjustment:
- Investment adjustment to offset our investment risk
- Expense adjustment to recover upfront expenses
- Expense adjustment to account for liquidity risk
1. Investment adjustment to offset our investment risk
The objective of the investment adjustment is to compensate for current interest rates being different than the contract rate. The net result is the Client neither gains nor loses from a withdrawal which is subsequently reinvested at current rates. We must cash in the investments we have made (bonds, mortgages) so the loss or gain which we incur because of the Client's request to withdraw funds from their guaranteed investment term is passed on to the Client .
2. Expense adjustment to recover upfront expenses
The expense adjustment is used to recover the expenses incurred when the contract was issued such as selling and administrative expenses. These expenses are normally recovered on an annual basis throughout the duration of the contract. If an early withdrawal of the funds is made, we must recoup those expenses which have not yet been recovered. This adjustment also covers the extra expenses involved in processing the early withdrawal.
3. Expense adjustment to account for Liquidity Risk
Liquidity risk arises whenever the liability holders (AA/GIC Clients) demand immediate cash for their financial claims. There are times when this demand for cash results in larger than normal withdrawals for a financial institution. As a consequence, the institution may have to sell some of their less liquid assets to meet the withdrawal demands of the liability holders.
Also, some assets with thin markets generate lower prices when the sale is immediate than if the financial institution had more time to negotiate the sale. Sun Life must account for this expense associated with liquidity risk.
The calculation of the market value involves:
- projecting the expected cash flows (maturity value on the Compound Interest Plan but also payments on the Annual Interest Plan/Monthly Interest Plan/Registered Retirement Income Fund) at the contract rate
- finding the discount rate, which reflects current interest rates plus the expense adjustment for upfront expenses and liquidity risk
- discounting the expected cash flows at the discount rate to the cash value date
The expense adjustments represent the adjustment to the interest rates used in determining the cash value. They vary by level, reflecting the fact that our expenses are lower as a percent of the overall accumulated value for higher levels.
These expense levels can vary by product and are subject to change. They are based on levels at the time of withdrawal, not at the date of deposit.