Over the last five years indexed annuity sales are up around 69% while variable annuity sales are down 16%. This is according the LIMRA Secure Retirement Institute’s fourth-quarter U.S. Individual Annuity Sales Survey. I’m not a fan of expensive variable annuities, which I will discuss later, but more importantly we want to understand why this small part of the annuity market is growing. Also, should we even care?
Before we try to understand why people have an interest in this stuff we should understand what they are. In a nutshell, an indexed annuity is unique in that the interest your contract in credited is based on the performance of an equity index like the S&P 500. In a low rate environment, some investors would rather take their chances with the stock market over a 10-year period rather than interest rates. Yes, there are some strings attached like fees, caps and participation rates, but any annuity that is worthwhile will do one important thing: protect your principle.
Our clients have three big ideas they want to address when looking at an annuity. First, when money only goes out in retirement and nothing comes in from savings, the math is different. You don’t have the luxury of throwing cash into the market during a bear market after your wage earning years are over. Our firm works hard to provide client’s with a strong allocation of cash and bonds to get through the hard times. Why sell stocks low to pay for your lifestyle? Have enough cash and bonds to get through a winter like 2008 or whatever crisis we will see in the future. An indexed annuity is just another tool that can help some clients structure a portfolio that will provide income to keep them in their lifestyle. Plus, imagine if you added a little strategy to mix?
Next on the list is the low rate environment that has turned many investors away from traditional annuities that are based loosely on a 30 year Treasury. If you are in your 70s and looking for immediate income that you won’t outlive this may be a smaller issue. However, if you are in your 50s or 60s your longevity could see several interest rate cycles.
Last is the simple truth that as we get older, guaranteed income plays apart in our general happiness. Remember the four steps to being happy as you age. Health comes first so you can be mobile. Mobility allows you to socialize. Being social and having fun requires some level of guaranteed income.
The decline in variable annuities is something to celebrate. In our view many variable annuities are just expensive mutual funds in a more expensive insurance wrapper. If you are going to invest in mutual funds, keep the expenses down and tax cost low. Move on if an annuity doesn’t protect the principle.
There are things we can’t ignore when looking at these contracts. Specifically, features such as caps can limit how much you can earn on a given index. We like contracts that have no limit on your upside. One thing you will rarely get is a sweetheart participation rate. In simple terms, the participation rate defines how much of your money is allocated to a given index versus a fixed rate, which is usually low these days. When you can find a contract that will allow 50-70% participation in a well-regarded index like the S&P 500 you are on the right track in most cases. It gets even better if there is an explicit fee to participate versus complicated formulas that only the insurance companies can understand.
At our firm we find that most people choosing an index annuity are traditional stock and bond investors looking for a vehicle that will provide similar performance over time but with a principle protection feature just incase the next 5-10 years throws a curve ball from either the market or personal circumstances. Be realistic, we don’t know how the markets or your life will play out over the next 10 years. If you will be leaving your money making days behind you, a little insurance can be helpful to your general outlook.
If you would like our firm to analyze your existing contracts or are curious if you should even consider looking at this stuff, call us. Our last unsolicited advice is never purchase an annuity or life insurance policy unless it is part of a well-planned strategy. Experience has taught us buying one off products leads to buyers’ remorse and damage control later down the road. You can imagine this is a leading cause of “I wish I never bought that” syndrome. Don’t worry; the same applies for stocks, bonds and real estate. No plan, no success.
Reach us at firstname.lastname@example.org or call us at (505) 884-3445. We can analyze your current annuity and life insurance policies to understand how they relate to your overall plan.