Earnings Call Transcript - PRU Q1 2023

Operator, Operator

Ladies and gentlemen, thank you for standing by, and welcome to Prudential’s Quarterly Earnings Conference Call. At this time, all participants have been placed in a listen-only mode. Later, we will conduct a question-and-answer session. Instructions will be given at that time. As a reminder, today’s call is being recorded. I will now turn the floor over to Mr. Bob McLaughlin. Please, go ahead.

Bob McLaughlin, Presenter

Good morning, and thank you for joining our call. Representing Prudential on today’s call are Charlie Lowrey, Chairman and CEO; Rob Falzon, Vice Chairman; Andy Sullivan, Head of International Businesses; PGIM, our Global Investment Manager; Caroline Feeney, Head of US Businesses; Ken Tanji, Chief Financial Officer; and Rob Axel, Controller and Principal Accounting Officer. We will start with prepared comments by Charlie, Rob, and Ken, and then we will take your questions. As a reminder, our financial results reflect the long duration targeted improvement accounting guidance that was adopted at the beginning of the year, and prior year results have been adjusted accordingly. Today’s presentation may also include forward-looking statements. It is possible that actual results may differ materially from the predictions we make today. In addition, this presentation may include references to non-GAAP measures. For a reconciliation of such measures to the comparable GAAP measures and the discussion of factors that could cause actual results to differ materially from those in the forward-looking statements, please see the slide titled Forward-Looking Statements and Non-GAAP Measures in the appendix to today’s presentation and the quarterly financial supplement, both of which can be found on our website at investor.prudential.com. And now, I’ll turn it over to Charlie.

Charlie Lowrey, CEO

Thank you, Bob. And thanks to everyone for joining us today. During the first quarter, we continued to transform our business to be less market-sensitive and better positioned to deliver sustainable long-term growth. Our financial strength, disciplined asset liability management, and robust risk management position us well to navigate the current macroeconomic environment while maintaining our balanced approach to capital deployment focused on creating value for our stakeholders. Turning to Slide 3, I'll begin this morning with an update on the progress of our strategy to become a higher growth, less market-sensitive and more nimble company. We are investing in long-term sustainable growth by expanding access to our products and services and markets around the world, including through programmatic M&A and organic growth opportunities, creating the next generation of financial solutions and delivering industry-leading customer experiences. Let me provide a few recent examples. Yesterday, we announced that Prudential is acquiring a majority stake in Deerpath Capital Management, a leading US private credit and direct lending manager with more than $5 billion in assets under management. The acquisition will expand PGIM's alternative capabilities while providing additional fee-based revenue and complementing PGIM's existing direct lending origination capabilities. In addition, Deerpath is a great example of how we are building our self-reinforcing business model, which will benefit both third-party investors as well as our insurance and retirement customers. Our Institutional Retirement Strategies business had strong first quarter sales, largely driven by our Pension Risk Transfer business, which had its best first quarter ever with more than $2.8 billion in total new business transactions. In addition, we experienced continued momentum in international reinsurance with a $500 million longevity risk transaction. We also achieved new growth milestones in our international business, especially in Latin America, where Prudential of Brazil's sales reached double-digit year-over-year growth through our three distribution channels. In particular, we are driving growth in Brazil through our expanded third-party distribution channel, which allows more consumers to access our products and services. During the quarter, we also expanded our distribution through the Mercado Libre platform into Mexico to sell life and accident and health products. In the US, our individual retirement strategies business continued to expand its suite of next-generation protection solutions. We expanded our FlexGuard distribution and introduced new product enhancements to meet the evolving needs of our customers. We are also diversifying our sales mix to meet increasing customer needs in a higher interest rate environment. Sales of fixed annuities represented one-third of total individual annuity sales in the first quarter, a significant increase from a year ago quarter. We continue to enhance the ways in which customers engage with our products and solutions, to drive more digital experiences and better customer outcomes. Let me give you a couple of examples. First, an industry survey ranked Prudential as a top three carrier in e-signature adoption. A majority of annuities applications are now submitted with e-signature, which has reduced processing time by several days and improved our environmental impact. Second, we launched a new electronic claims portal for life insurance customers that allows beneficiaries to file claims in minutes and to receive payments in days rather than weeks. By using the portal this quarter, we have experienced a 300% increase in digital claims processing and overwhelmingly positive customer feedback. Turning now to slide four. Prudential's rock-solid balance sheet and robust risk and capital management frameworks have allowed us to confidently navigate the current macroeconomic environment. Our financial strength, including our AA rating, is supported by $4.6 billion in highly liquid assets at the end of the first quarter, as well as a high-quality, well-diversified investment portfolio and a disciplined approach to asset liability management. We've also taken advantage of opportunities to further optimize our financial flexibility and liquidity position. We proactively issued a contingent capital facility to replace the one that matures in November of this year and issued $500 million of hybrid debt to pre-fund the maturity of the same amount next year. Moving to slide five. Our disciplined approach to capital deployment also enables us to effectively balance investing in the long-term growth of our businesses with returning capital to shareholders. In the first quarter, we returned $700 million to shareholders and increased the quarterly dividend by 4%, our 15th consecutive annual dividend increase. Looking ahead, we will maintain our disciplined approach to capital management and redeployment. We are confident that this approach, coupled with our robust financial position, mix of mutually enhancing businesses, and growth strategy, positions us well to be a leader in expanding access to investing, insurance, and retirement security for people around the world. Thank you for your time this morning. And with that, Rob will now provide an overview of our first quarter financial results and an update on our business performance.

Rob Falzon, Vice Chairman

Thank you, Charlie. I'll provide an overview of our financial results and business performance for our PGIM, US, and International businesses. I will also provide an overview of our investment portfolio and specifically our commercial real estate holdings, given the increased focus on the risks associated with a potential near-term credit cycle. I'll begin on slide six with our financial results for the first quarter of 2023. Our pre-tax adjusted operating income was $1.3 billion or $2.66 per share on an after-tax basis. These results reflect underlying business growth, including the benefits from a higher interest rate environment, offset by lower variable investment and fee income, as well as elevated seasonal mortality experience. While elevated mortality improved compared to the year ago quarter as COVID transitioned to an endemic phase. Turning to the operating results from our businesses compared to the year ago quarter. PGIM, our global investment manager, had lower asset management fees due to lower assets under management resulting from higher interest rates, equity market declines, and net outflows. Other related revenues increased primarily from seed and co-investment earnings. Results of our US businesses primarily reflected lower fee income, less favorable variable investment income, partially offset by the impact of higher rates on spread income and more favorable underwriting. The decrease in earnings in our International businesses primarily reflected lower spread income, largely due to less favorable variable investment income. Turning to slide seven, PGIM, our global active investment manager, has diversified capabilities in both public and private asset classes across fixed income, equities, and alternatives. PGIM's investment performance remains attractive with 80% or more of assets under management outperforming their benchmarks over the last three, five, and ten-year periods. PGIM experienced third-party institutional and retail net outflows of $14 billion in the quarter, primarily from fixed income strategies. Institutional outflows were mainly driven by client redemptions for liquidity needs, including de-risking actions of defined benefit sponsors. Retail outflows were driven by investors rebalancing amidst higher interest rates and inflation, consistent with the industry. As the investment engine of Prudential, the success and growth of PGIM and of our US and international insurance and Retirement businesses are mutually self-reinforcing. PGIM's asset origination capabilities, investment management expertise, and access to institutional and other sources of private capital are a competitive advantage, helping our businesses bring enhanced solutions and create more value for our customers. Our insurance and retirement businesses, in turn, provide a source of growth for PGIM through affiliated net flows, which totaled $2 billion in the first quarter of 2023, as well as unique access to insurance liabilities. In addition, we continue to grow our private alternatives and credit business, which has assets of approximately $235 billion across private, corporate and infrastructure credit, real estate equity and debt, and secondary private equity and will be further enhanced through the acquisition of Deerpath Capital, as Charlie previously stated. Turning to slide eight, our US businesses produced diversified earnings from fees, net investment spread, and underwriting income and benefit from our complementary mix of longevity and mortality businesses. We continue to shift towards higher growth and less market-sensitive products and markets, enhance our customer and adviser experiences, and further expand our addressable market. Retirement strategies achieved strong sales of $5.5 billion in the first quarter across its institutional and individual lines of business. Our Institutional Retirement business has market-leading capabilities with first-quarter sales of $3.8 billion, including a jumbo pension risk transfer transaction, which contributed to record account values at the end of the first quarter. In Individual Retirement, product pivots have resulted in continued strong sales of more simplified solutions like FlexGuard and FlexGuard Income, representing over $13 billion of sales since inception, as well as increased fixed annuity sales that comprised approximately one-third of our sales. Our individual life sales reflect our earlier product pivot strategy, with variable life products representing about 70% of sales for the quarter. And we continue to diversify group insurance sales with strong growth in supplemental health and disability products and driving 25% growth in the premier segment from the prior year quarter. Turning to slide nine. Our international businesses include our Japanese life insurance companies, where we have a differentiated multi-channel distribution model, as well as other businesses aimed at expanding our presence in high-growth emerging markets. In Japan, we are focused on providing high-quality service and expanding our geographic coverage and product offerings. Our needs-based approach and protection product focus continue to provide important value to our customers, as we expand our product offerings to meet their evolving needs. We continue to enhance customer experience and agent support, including through digital tools. Prudential of Japan ranked number one in two out of the three categories in the 2023 J.D. Power Life Insurance customer satisfaction survey. We are proud to be recognized for the value we provide customers. In emerging markets, we are focused on creating a carefully selected portfolio of businesses in regions where customer needs are growing, where there are compelling opportunities to build market-leading businesses, and where the Prudential enterprise can add value. Our international businesses experienced their highest sales since the third quarter of 2020. Compared to the prior year quarter, Gibraltar sales were up 16%, mainly driven by the Life Consultant channel, primarily from higher US dollar sales. Life Planner sales were up 13%, driven by the continued momentum in Brazil, as well as higher sales in Japan. Now turning to our investment portfolio on slide 10. We have a disciplined approach to our investment portfolio construction and management. It reflects our robust asset liability management practices, commitment to broad diversification, and a rigorous underwriting security selection and credit management framework. We also leverage PGIM's expertise across multiple asset classes, including its deep and long-standing experience in private placements and real estate. With respect to our investment portfolio, here are a few key points. 30% of the portfolio is invested in government securities, primarily comprised of US treasuries and Japanese government bonds. 43% of the portfolio is invested in corporate securities, of which over 93% are investment grade. Private placements represent almost 40% of these corporate securities and over half of our BBB and below rated securities. These privates have financial covenants and structural protections that have consistently resulted in lower losses than comparable public securities. In past cycles, the loss experienced on our BBB private placements has been comparable to single-A public credits. Mortgage loans represent an area of interest; I'll provide more detail on slide 11. Our mortgage loans represent 13% of our portfolio and reflect our conservative underwriting with an average loan-to-value of 57% and debt service coverage of 2.4 times. The portfolio is broadly diversified by property type, overweight in more defensive sectors such as multifamily and industrial, and underweighted in both office and retail. Specifically, office properties represent only 2% of invested assets, with loan-to-values and debt service coverage ratios that are in line with the overall portfolio. We have a disciplined portfolio monitoring process to review all investments at least annually and a robust risk management framework, which includes stress tests under cyclical and tail scenarios. Any potential credit losses in these scenarios are factored into our capital management framework and are expected to be manageable. As we look ahead, we are well positioned across our businesses to be a leader in expanding access to investing, insurance, and retirement security. We continue to be focused on investing in growth businesses and markets, delivering industry-leading customer experiences, and creating the next generation of financial solutions to better serve the diverse needs of a broad range of customers. And with that, I'll now hand it over to Ken.

Ken Tanji, CFO

Thanks, Rob. I'll begin on Slide 12, which provides insight into earnings for the second quarter of 2023 relative to our first quarter results. As noted, pre-tax adjusted operating income in the first quarter was $1.3 billion and resulted in earnings per share of $2.66 on an after-tax basis. To get a sense of how our second quarter results might develop, we suggest adjustments for the following items. First, variable investment income was below expectations in the first quarter by $150 million. Next, we adjust underwriting experience by $85 million to normalize for first quarter experience. And last, we expect other items to increase adjusted operating income by $25 million, primarily due to the seasonally elevated expenses in the first quarter. These items combined get us to a baseline of $3.20 per share for the second quarter. I'll note that if you exclude items specific to the second quarter, earnings per share would be $3.29. The key takeaway is that our underlying earnings power has improved due to business growth, including the benefit of higher interest rates. While we have provided these items to consider, please note there may be other factors that affect earnings per share in the second quarter. Turning to Slide 13. Our capital position continues to support our AA financial strength rating. Our cash and liquid assets were $4.6 billion at the high end of our liquidity target range. We have substantial off-balance sheet resources including contingent capital and liquidity facilities. As Charlie noted, we replaced a $1.5 billion contingent capital facility that will mature in November. We remain thoughtful in our capital deployment, balancing the preservation of financial strength and flexibility, investment in our businesses, and shareholder distributions. Turning to Slide 14 and in summary, we are transforming our businesses for sustainable growth. We continue to navigate the current macro environment with the financial strength of our rock-solid balance sheet, and we maintain a balanced and disciplined approach to capital deployment.

Operator, Operator

Thank you. We’ll now begin the question-and-answer session. Our first question today is from Tom Gallagher from Evercore ISI. Your line is now live.

Tom Gallagher, Analyst

Good morning. The first question is about the potential changes to the interest maintenance reserve rules. I understand that there was a $1.8 billion negative adjustment for you last year due to mark-to-market impacts from interest rates on derivatives. I’ve heard there is a proposal from the NAIC suggesting some changes. Can you share your thoughts on whether you think that will be implemented and if there is a possibility of recapturing some or all of the $1.8 billion if it does change? Thank you.

Ken Tanji, CFO

Hi Tom, it's Ken. Yes, the NAIC is currently working on addressing some uneconomic issues related to the IMR. They have released a proposal that is open for comments until June 9th, allowing time for industry feedback. We view this as a significant step forward, as both the industry and regulators are committed to resolving this matter. However, the proposal requires some adjustments in certain areas, and there is a process in place to address that. We and many others are having productive discussions. While it's challenging to predict the regulatory timeline, it appears we are on track for some changes this year.

Tom Gallagher, Analyst

Ken, is your main assumption based on the current situation that you might recover all of it, or do you think it will just be a partial recovery of some of the negative impact on RBC?

Ken Tanji, CFO

Yes, Tom, again, it's hard to predict. There are things that are being discussed, and until those things get sorted out, I wouldn't want to give an indication of how that plays out. But again, they are taking input; it's a very constructive process, and I think all the intentions are there to put this on the path for resolution, but that will play out in time.

Tom Gallagher, Analyst

And for my follow-up, I have a question about leverage. I understand you're planning to redeem $1.5 billion of subordinated debt in June, and you also issued $500 million in the first quarter. Where do you currently stand on leverage? Can you discuss whether you have the capacity to issue more debt or if you're at an appropriate level? Given the recent changes, the calculation from an accounting standpoint appears somewhat complex. Could you provide some clarity on this? Thank you.

Ken Tanji, CFO

Yes, sure. Yes, at the end of the first quarter, we were in line with our leverage objectives, and then when we call the $1.5 billion of debt, which has always been in our plans to do that in June, that would increase our debt capacity. Our overall debt capacity, though, is a function of rating agency criteria and other objectives, as we look at profitability, free cash flow, fixed cost coverage, and stress testing, which we believe is important. So, it's not just leverage that would determine our debt capacity. But again, calling that debt was part of our plans. It was pre-funded, and that will improve our debt capacity going forward. Overall, we're on track for our plans for the year.

Ryan Krueger, Analyst

Good morning. Can you elaborate on what influenced PGIM flows during the quarter? Additionally, what are your thoughts on the outlook moving forward? Do you expect any further impacts from liquidity-driven repositioning, or do you think most of that is behind you now?

Andy Sullivan, Head of International Businesses

Good morning, Ryan, it's Andy. I'll take your question. As we always discuss, flows are going to vary quarter-to-quarter, so we stay focused on the long-term track record. In Q1, we experienced third-party net outflows of $14 billion, driven both by retail and the institutional. On both fronts, as you heard Rob say upfront, it is very much a fixed income story. Our retail outflows were $3.8 billion in the quarter. The fact is we continue to see money flowing out of active US mutual funds and into money market funds, CDs, and other short-term solutions. That being said, we did see a slowing of the retail outflows in the quarter, consistent with the industry. We would expect this outflow trend to reverse once inflation moderates and the rate environment stabilizes. On the institutional side, net outflows were $10.2 billion for the quarter. That was driven almost entirely by redemptions from public fixed income as institutional investors sought that liquidity, as you mentioned, and DB sponsors de-risk their plans. We would expect that the near-term flow volatility in the institutional business will remain volatile, given the heightened macroeconomic, geopolitical, and market uncertainty. That being said, our long-term investment performance remains very, very strong with over 80% of our benchmarkable assets outperforming the three, five, and ten-year marks. We have high confidence in the power of our platform, particularly as sustained higher rates are going to be good for the fixed income business, and we will benefit over time from the synergy between our insurance and asset management businesses. So by paying attention to the fundamentals, we know we'll be a net grower.

Ryan Krueger, Analyst

Thanks. Can you provide a follow-up on the other related revenues in PGIM? How sensitive are these revenues to transaction-related real estate fees? In the current environment, where there is reduced commercial real estate activity, do you anticipate that these revenues will stay lower than usual due to the absence of incentive fees, or can you offer some insight on this?

Andy Sullivan, Head of International Businesses

Yes. Again, it's Andy. Thanks, Ryan. As you know, last quarter, we lowered our run rate expectations for ORR, specifically due to the expected slowdown in real estate-related revenues. And that shows up in a variety of ways, obviously, both in the agency side, but also as you're talking about in transaction fees and incentive fees. So in the quarter, we came in lower than our expected average because we saw that real estate slowdown, as we expected it. And I guess the only other thing I would mention is, just a reminder that incentive fees tend to be seasonally low in Q1, so that was definitely a contributor as well. I think over time, the expected average of about $50 million is still the right ballpark, but definitely, the real estate slowdown will have an impact.

Erik Bass, Analyst

Hi. Thank you. You mentioned stress testing your credit portfolio and including that in your capital management plans. So I was just hoping you could provide a bit more color on what you're assuming and what those capital impacts could look like in a moderate or severe recession scenario.

Rob Falzon, Vice Chairman

Erik, it's Rob. I'll start by explaining our approach to stress testing, and then I’ll let Ken discuss how we incorporate that into our capital planning. We have a strong enterprise risk management system and conduct a variety of stress tests based on different scenarios, including a moderate economic decline and a severe recession. Specifically for our real estate portfolio, we also run more severe stress tests similar to what the banks undergo in CCAR. The results from these tests inform our capital planning and reserving processes. We haven’t made any updates to our disclosures on this, but the impact we mentioned back in the first quarter of 2020 regarding the credit cycle is still consistent today. Ken, do you want to add anything to that?

Ken Tanji, CFO

Yes. Regarding your second question, Erik, what drives our plans is the expectation of a slowing economy and the early phases of a mild recession, which would involve an increased level of credit losses and rating migration. Additionally, as Rob mentioned, we take into account various stress tests. These factors are what we consider when we establish our plans for the year.

Erik Bass, Analyst

Got it. Thank you. And then I was hoping you could talk a little bit about your strategic view of the US individual life business going forward. Just under LDTI, I think your guidance implies this business will be roughly breakeven or almost slightly profitable on a GAAP basis. So are there any actions that you're considering or that you could take to improve the profitability of this business?

Caroline Feeney, Head of US Businesses

Hi, Erik, it's Caroline, and I'll address your question. As you mentioned, LDTI is anticipated to lead to a notable decrease in earnings this year for the Life business since AOI recognition will be delayed. While this affects the earnings pattern, it does not alter the business's economics. Despite the impact of LDTI, we are actively seeking ways to improve the business's earnings capability. We are optimistic about our efforts to shift toward less interest rate-sensitive products and diversify our overall product range. This includes the recent introduction of our indexed variable universal life product, FlexGuard Life, which is gaining traction. We expect our AOI to increase over time through core growth, the compounding effect of profitable new business, and higher reinvestment rates. Overall, we are fully committed to the individual life business and believe it is essential to Prudential's mission. We see great growth potential with our brand, product variety, and strong distribution capabilities. We also value the balance that the Life business provides, particularly in terms of longevity and mortality. Regarding our pivot, our new business has a much more favorable risk profile, and we are writing new business at attractive returns.

Jimmy Bhullar, Analyst

Hey. Just a question first on your commercial mortgage loan book. If you could discuss your confidence in that portfolio? And any stats that you could give us in the loans that have either been restructured and how that sort of trended over the past several months?

Rob Falzon, Vice Chairman

Jimmy, it's Rob. I'll handle that. First, just from a high-level standpoint, the real estate portfolio is a very high-quality portfolio, broadly diversified both by geography and in the underlying property types. We really benefit from PGIM's direct origination capabilities in this arena. They've got a management team there that's got well over 25 years industry experience and deep knowledge of the markets and a proven track record in that area. When we look at the quality of the portfolio, it's actually holding up quite well. You can see that our CECL reserve for that portfolio is just a little under $200 million. That's about 39 basis points against the portfolio, then that is up from about 21 basis points a year ago. But that's primarily a general reserve. We only have a single loan with a specific reserve in there, an office property. Outside of that, the reserve comprises our estimation of losses across the portfolio based on historical data.

Jimmy Bhullar, Analyst

Okay. And then the acquisition of Deerpath, should we assume that there's going to be sort of a diversion of funds from buyback to fund this, or should we not expect any impact on your buyback plans?

Charlie Lowrey, CEO

So, Jimmy, let me take that and just raise it up a level and then I'll answer your question directly. We have said when we think about buybacks and the application of capital that we want to be good stewards of capital. And we have and will continue to demonstrate a very disciplined and balanced approach to the redeployment of capital within our businesses and to our shareholders and other stakeholders. You saw in the first quarter we returned over $700 million to shareholders, which included the 15th consecutive annual increase in our dividend. But if I take a step back for a moment, let me share some observations about how we think about capital allocation and particular optimization, which fits your point. We look across all our businesses, both domestically and internationally, to ensure that we're optimizing capital deployment. So we'll continue to look for ways to optimize capital to maximize outcomes for all our stakeholders by balancing investments in our businesses and business growth, programmatic M&A, and returning capital to shareholders while maintaining our financial strength. You saw examples of all of that this quarter, right? We continue to invest in our businesses. We did programmatic M&A with Deerpath Capital. We returned capital to shareholders, both in the form of dividends and share repurchases, and we made an announcement to repay hybrid, which lowers our leverage. We'll continue to evaluate all these things as we go forward, especially in the current macroeconomic environment. But as an example, this quarter, we were able to do all of that given the strength of our capital position, given the cash flow we've generated, and given our strategy going forward.

Elyse Greenspan, Analyst

Good morning. My first question is about capital. After the $1.5 billion debt paydown, you are at around 3.1 at the holdco. Can you clarify where you intend to operate in relation to that target? Additionally, can you provide details on the timing of dividends you plan to take out of PICA this year and any capital repatriation from Japan?

Ken Tanji, CFO

Yes, it's Ken. As I mentioned earlier, we've been preparing for the $1.5 billion for some time, which has shaped our plans. Typically, the first quarter sees lower cash flow from subsidiaries, which is what we experienced this quarter, while subsequent quarters generally show higher cash flow. All of our businesses are profitable and generating cash flow, including PICA and PGIM. We anticipate cash flows from them as we move through the year and expect to operate within our $3 billion to $5 billion Holdco HLA range. There will be fluctuations, with some periods higher and others lower, which is why we define this range. Overall, we are progressing according to our plans.

Elyse Greenspan, Analyst

Thanks. And then the second quarter baseline, the 320 EPS, that assumes normal PII, but prepays and alternative real estate income could be lower just given the volatility we're seeing in markets. So how should we think about just PII, not only for the Q2, but also for the balance of the year?

Rob Falzon, Vice Chairman

Elyse, it's Rob. I'll address your question. Regarding the returns on the alternatives portion of the portfolio and separating that from the prepayments aspect, market performance will continue to influence returns, particularly in the private equity segment of our portfolio. This relationship is directional, and its specific effects vary by quarter depending on market conditions. It's important to point out that within our private equity allocation, about a quarter is invested in mezzanine distressed debt and infrastructure, which are not entirely aligned with broader market trends. Additionally, private equity returns are reported with a one-quarter delay, so analyzing equity performance in the first quarter may give insights into future portfolio performance. Concerning prepayments, we noticed a lower level of prepayments due to the higher interest rate environment, and we expect this trend to continue going forward. To conclude on the alternatives portfolio, I want to highlight that our alternatives strategy is focused on long-term investments. Over this extended horizon, we anticipate ongoing benefits from our dedicated team, portfolio diversification, and our careful manager selection processes. In response to your question about real estate, it's actually a relatively small part of our alternatives, accounting for about 15% or so.

Alex Scott, Analyst

Hey, good morning. First one I had is on annuities. That was a place where, I guess, relative to the presentation, you all put out at the time of the LDTI recast, the result came in much, much stronger this quarter. So I just wanted to see if you had a perspective on sort of what changed there versus what you were expecting at the time of the LDTI recast? And one of the things that struck me was NII, and I know you all have talked about sensitivity to the NII on shorter-duration collateral securities and cash. And I just wanted to see if you could provide any kind of sensitivity to help us think through how to model that, as we think through federal funds at the levels they are today versus some of the projections that have them declining?

Caroline Feeney, Head of US Businesses

Yeah. So Alex, it's Caroline, and I'll take your questions. So first of all, I would point out that the strong earnings in our Retirement Strategies business continue to reflect the ongoing growth that we're experiencing in this business. And I'll just start with the institutional retirement business, which ended the quarter with record account values of $253 billion. Our account values benefited from nearly $4 billion in sales, including the best first quarter ever in our pension risk transfer business. And then if I move to the individual retirement strategy side, we continue to see strong sales here as well, anchored by our FlexGuard suite of indexed variable annuities. In less than three years, we've delivered over $13 billion in total sales, clearly reinforcing our leadership position as a top five player in the indexed variable annuity space. And complementing that success, our fixed annuity offerings saw continued strong growth and represented over 30% of our sales for the quarter. Compounding this growth story from an earnings perspective, Alex, is our robust disciplined pricing. So when we go to market, our pricing clearly is fair, competitive, and also accretive to shareholder value. We're also able to maintain this profitable growth trajectory, thanks to the strength of our brand, our leading distribution capabilities, as well as strong execution. I would also point out that earnings in the Retirement Strategies business are seeing a benefit from tailwinds provided by the current interest rate environment in both short- and long-term rates, which are driving favorable spread income. And then finally, we remain focused on expense discipline and continuous improvement in operating efficiency with an eye towards protecting the bottom line. So it's really a combination of all of these factors that contribute to the strong earnings we continue to see in the Retirement Strategies business, which are well-positioned for continued growth.

Alex Scott, Analyst

Got it. Maybe just a follow-up to that, I mean the portion that's the sensitivity to shorter-term interest rates, is there any way for us to gauge how that may react if the Fed run trade begins to decline? It just seemed like there's maybe a bit more leverage than I would have guessed on the upside to that. So I don't want to overlook – estimate?

Caroline Feeney, Head of US Businesses

So Alex, clearly, the earnings, as I mentioned, are seeing a benefit from the current interest rate environment, and that's both on the short-term as well as the long-term rates driving the favorable spread income. And if we were to see rates decline, then clearly, we would see a reduction in the spread income that we earn. But I also want to reiterate the point that I made that business growth continues to be a driver of earnings as well. And so even if there was a reduction in rates, we would clearly expect that to persist.

John Barnidge, Analyst

Thank you very much for the opportunity, and good morning. My question is around the group insurance. Persistency decline in both group life and disability, can you maybe talk about the drivers, seeing any impact from deployment reductions as the larger jumbo into the market?

Caroline Feeney, Head of US Businesses

Of course, John. It's Caroline, and I'll take your question. So let me just start by taking a step back and pointing out that at the core focus of our group business is to remain price disciplined and profit-focused. And that just really means pursuing smart growth. We saw a 2% growth from the year-ago quarter in earned premiums and fees, and that was primarily driven by growth in disability and supplemental health. While we saw strong sales in the first quarter in Group Life, the year-over-year decline in annualized new business premiums is attributable to our strong discipline when it comes to pricing new sales. Specific to your question on persistency, John, I'll highlight our approach to renewals, which, as you know, are heavily weighted towards the January 1st effective date. When it comes to pursuing renewals, if we are unable to achieve our desired level of profitability through appropriate rate action, we choose not to retain that business, which is, in fact, just really addition by subtraction. So from a group life persistency perspective, you're actually seeing those principles in action here in the first quarter. The trend in the persistency ratio in our group disability business remains strong. John, you also asked about unemployment and the impacts there. With regard to any signs of impacts from workforce reductions, we really aren't seeing any impact on our business at this point in time. While there clearly have been quite a few large layoff announcements that have generated their share of headlines, overall employment conditions continue to be strong. We're seeing tight labor markets with low current unemployment and a large number of job openings. So this favorable employment trend is evident in the results of our group disability business, and our results reflect favorable macroeconomic tailwinds, as well as strong execution on proactive claims management. So broadly, we view the risk of unemployment impacts to our business as low over the short to medium term. I would also mention, John, historically increases in unemployment rates over a sustained period could drive an increase in disability claims. However, they would typically take six to twelve months to cycle into our results.

John Barnidge, Analyst

Thank you very much. I have another question about Japan. I understand they are easing pandemic-related restrictions and classifying COVID similarly to influenza. Can you discuss whether this is expected to improve distribution or if there are any product launches planned in relation to this? Thank you.

Andy Sullivan, Head of International Businesses

So John, it's Andy. I'll take your question. But let me lift it up a bit and just talk about Japan sales overall. Our Japan operation is competitively advantaged with outstanding distribution, really strong product, and a great brand. We were very pleased with the quarter sales results where we had a 4% improvement over the sequential quarter and a 10% improvement year-over-year. That success was well spread out as we experienced material year-over-year growth in the Life Planner, Life Consultant, and bank channels. To your question on product, our work on innovating our product designs continues as we drive to ensure that we meet the needs for retirement, wealth transfer, and unmet health and care needs. We also continue to drive our efforts around customer experience with a particular focus on strengthening the product and the offering and the experience to small to midsized enterprises. As far as the pandemic-related effects and restrictions, we are seeing the COVID-related sales challenges begin to subside. But that being said, we are still seeing impacts from a recruiting and retention perspective. But if you look at everything in aggregate, we're quite optimistic about our ability to grow these businesses over time, as always our priorities are to deliver strong value to our customers while achieving very, very healthy levels of profitability.

Suneet Kamath, Analyst

Thanks. I just want to go back to Charlie, on an answer that you gave to a previous question on capital, I think it was Jimmy's question. So I just wanted to confirm, are you committing to the $1 billion of buyback for the year, or it just felt like maybe there was a little bit of vagueness in your response. I just wanted to give you the opportunity to clarify.

Charlie Lowrey, CEO

No, thanks, Suneet. There is no vagueness in my response. To be clear, the Board has authorized $1 billion of buybacks, and we will evaluate that each quarter based on the macroeconomic conditions. So there is no wavering, but we can't guarantee that, as that would be a forward-looking statement, which we can't make. There is no doubt in our intention to execute on the program, but again, we can't make forward-looking statements.

Suneet Kamath, Analyst

Okay. That's clear. Thanks for that. And then I guess, I don't know if it's for Rob or Ken, when you talk about on Slide 11 about the mortgage loan portfolio and the process that you go through evaluating at least once a year, what is that process like? Is that an internal process where you use your team, or do you go externally and hire firms to confirm or validate your approach? Just curious how you think about that?

Rob Falzon, Vice Chairman

Hi, it's Rob, and I'll address the question. This is an ongoing process that takes place throughout the year, rather than being limited to a single point in time for appraisals. We have a comprehensive procedure in place where a central team manages the appraisals for all properties. This involves using outsourced appraisers to provide input, but the final appraisal is conducted internally. We incorporate external data and valuations, but we also apply our own constraints. For example, we have minimum cap rates that differ by property type in our internal valuations. As we've mentioned before, this approach typically results in our internal appraisals being about 10% lower than the external appraisals we receive. Therefore, when we report our valuations, they reflect our internal perspective shaped by external appraisals, but they are fundamentally conservative internal figures.

Suneet Kamath, Analyst

Makes sense. And if I could sneak one more in just on Japan again. So higher rates in Japan is a relatively new phenomenon. So I'm just curious, one, is that changing kind of customer behavior in terms of products? And then relatedly, I think maybe a quarter or so ago, you guys were having some issues with lapses in the foreign currency products. So just curious if there's an update there in terms of if that's continuing or if it's stabilized, that would be helpful. Thanks.

Andy Sullivan, Head of International Businesses

Sure, it's Andy. I'll address your question. Starting with the second part, regarding surrenders, as we mentioned last quarter, our elevated surrender levels began to decrease in December. We've continued to see that trend in the first quarter, with surrenders consistently declining throughout the quarter. Regarding higher interest rates, particularly in yen and US dollars, I want to emphasize that higher interest rates benefit Prudential and our businesses, including our operations in Japan. This is not only true from an earnings standpoint but also because higher yields enhance our product designs and enable us to provide more value to our customers while benefiting our shareholders. Overall, we view these as positive trends.

Tracy Benguigui, Analyst

Thank you. What drove elevated mortality in the first quarter versus what you typically see? I guess, I'm just curious if you saw an early flu season last quarter that was a pull forward or not?

Caroline Feeney, Head of US Businesses

Sure, Tracy. It's Caroline. And thanks for your question. The Life business typically experiences elevated seasonal mortality in the first quarter, and that's consistent with what we see across the industry. Certainly, this year was no exception. Along with the industry, we even saw some excess seasonal mortality, and that was due to the impact from COVID, flu, and also other respiratory illnesses. We also saw a higher incidence of large face-value claims within our Life business. Going forward, Tracy, we do believe that COVID has transitioned to an endemic state and therefore, may still contribute to some amount of elevated mortality over the near to medium term. I would just point out, however, that the overall trend is better than the two previous winters, reinforcing our belief that we will return to pre-pandemic mortality levels in the long term. Finally, even though we did see some unfavorable mortality experience in the quarter, our diverse mix of mortality and longevity businesses helps to mitigate some of that experience over longer-term horizons. Tracy, you also asked about flu season last year, and there was no evidence of an early flu season in our book last year.

Tracy Benguigui, Analyst

Very helpful. I appreciate that. The next question, I'd like to ask you about your office loan maturities in the next 24 months. Our review of stat filings, it looks like it's about $500 million. Can you speak to the feasibility of extension? Do you feel like borrowers could either purchase an interest rate cap if the loan is floating or reduce the loan balance by putting in more equity with the current debt yields allow that?

Rob Falzon, Vice Chairman

Sure, Tracy. It's Rob. A little over 10% of our portfolio matures in the next two years. If you consider that statistic you mentioned, remember that our portfolio is nearly all fixed-rate rather than floating rate. The differences in the rollover of the portfolio will depend on what's happening at the long end of the curve compared to the short end, where changes have been more significant for those borrowing on a floating rate basis. Given our relatively low loan-to-value ratios, which we've stated are mid-50s on average, as we refinance loans, the office portfolio aligns with that overall statistic. Therefore, as we refinance our loans, we aren't particularly worried about having enough equity to do so, even if it means a higher loan and LTV compared to where we currently stand.

Michael Ward, Analyst

Thanks for fitting me in. I have a question about the slide on REIT debt. Could you elaborate on that and explain how it compares to direct commercial mortgage loans in terms of credit risk?

Rob Falzon, Vice Chairman

It's Rob again. Mike, I would think about the REIT portfolio as more akin to our private placement portfolio than the mortgage portfolio. While mortgages of the underlying assets within businesses, they are larger, more diversified businesses than what you're going to find in a typical single asset mortgage loan. The REIT portfolio is about 2% of our assets. It's 97% investment grade. It's very well-diversified by geography and property type. Like all of our private placements, it benefits from a strong package of covenants as a result of our direct origination capabilities, and that loan portfolio is primarily, if not almost entirely a result of that direct origination within PGIM. So like we do across the rest of the private placement portfolio, we actually feel quite good about the strength of those loans and their performance in the down cycle compared to similarly rated public securities.

Michael Ward, Analyst

Okay. Thanks very much.

Operator, Operator

Thank you. We reached the end of our question-and-answer session. I’d like to turn the floor back over to Mr. Lowrey for any further or closing comments.

Charlie Lowrey, CEO

Okay. Thank you again for joining us today. I hope we demonstrated to you the progress we're making in transforming Prudential to deliver sustainable long-term growth and to meet the evolving needs of our customers. We're confident in our strategy and the strength of our company. For nearly 150 years, Prudential has been focused on creating value for our customers and other stakeholders who we will continue to serve as we strive to be a global leader in expanding access to investing, insurance, and retirement security. Thank you again for joining us, and have a good day.

Operator, Operator

Thank you. That does conclude today's teleconference and webcast. You may disconnect your lines at this time, and have a wonderful day. We thank you for your participation today.