Fixed Indexed Annuities: Principal Protection and Growth Potential
SPECIAL ANNUITY SUPPLEMENT - Summer 2011 | By Richard Moran
Whether aiming for asset growth or protection, clients today face tough decisions when it comes to investing their retirement assets. They may be concerned about tying up money in a low-rate fixed account and missing the boat if rates increase. And with the unpredictable stock market, clients may see securities and variable accounts as too risky for their liking. Given the forces at play, it’s no wonder there have been record industry sales of fixed indexed annuities (FIAs) for two years in a row.
FIAs combine the stability and guarantees of a fixed product with growth potential based on the performance of an underlying securities index such as the S&P 500. Some carriers also include commodity index options for greater diversification. While not invested directly in securities, clients receive higher interest credits (usually limited to a pre-determined “cap”) if the index increases during the interest term (e.g., 12 months). If the index declines, the owner’s purchase payment — and any previous interest credited — are protected from market losses by a guaranteed minimum interest rate, or “floor” (provided the annuity contract is not surrendered early). These combined features help provide clients with principal protection and growth potential, with less concern about rate movements or market volatility.
FIAs are more complex than other fixed annuity products, generating some occasional misconceptions about the product. While the features of FIAs have changed in the last several years, many of the misconceptions have not. Let’s take a closer look at some of the more frequent objections to fixed indexed annuities and how they can be addressed.
“I can’t access my money for a long time.”
While any deferred annuity is designed for longer-term growth, most modern FIAs have more options for accessing funds than earlier generations. Many offer free annual withdrawals of around 10 percent. And like other fixed products, FIAs generally have a choice of shorter or longer surrender schedules. At the end of the surrender period, clients can withdraw their money without penalties or convert it to a lifetime or limited-period income option.
“Interest rates on fixed indexed annuities are too low.”
FIA interest rates generally are competitive with other so-called “stability” products such as CDs, savings accounts or traditional fixed deferred annuities. Their primary intent is to help protect principal while generating a guaranteed return. The value of a fixed indexed annuity is the additional interest credited when the annuity’s underlying index rises.
“I don’t like ‘caps’ on my investment returns.”
Perhaps the biggest misconception regarding FIAs concerns the interest rate “cap” imposed by the insurer. As asset-protection vehicles, FIAs safeguard clients’ principal by guaranteeing that their purchase payment is not at risk, even if the underlying stock index declines. The cap imposed by the insurer is an exchange that allows them to provide the “floor” protecting their principal. Even if the index declines, the annuity value is guaranteed never to drop below the purchase price.
“Fixed indexed annuities are too complicated.”
While FIAs are more complicated than other fixed products, they provide benefits that would otherwise require a combination of products and a constant eye on the markets. FIAs provide upside growth potential based on index performance, but without the hassle and downside risk of actual investment in securities or funds. Clients can take a hands-off approach, knowing that their guarantee will prevent the annuity value from ever dropping below the purchase price.
More reasons to buy
For the 17th year in a row, Dalbar’s 2011 Qualitative Analysis of Investor Behavior found that the average investor underperformed the S&P 500. Investors frequently make emotional decisions that lead to abandoning investments at inopportune times. FIAs may allow clients to enjoy the upside potential of market gains without the downside risk that causes many to sell their investments before they should.
The potential for higher interest credits also can serve as a hedge against inflation. A client earning 1 to 2 percent in a fixed investment eventually may find inflation outpacing his or her earnings. With a FIA, the additional interest credited when the index climbs could narrow the gap between the fixed interest rate and the inflation rate.
Take a closer look
The objections listed above may prevent many clients and advisors from taking a closer look at FIAs, despite their advantages over other traditional fixed investments. When the facts are presented though, fixed indexed annuities may be just the product for clients looking to balance principal protection and growth potential in an uncertain economic climate.
Richard Moran is vice president and National Sales Manager at Symetra Life Insurance Company (Bellevue, WA).