For many years, bonds have been considered to be a “safe haven” for investors when the stock market is volatile and unpredictable…which is becoming more common every day! Yet, the extremely low interest rate environment of the past decade has made bonds less attractive in terms of both growth and income. That’s why more investors are turning to the fixed indexed annuity as a bond alternative.
This sentiment is also shared by some of the top economists and financial researchers in the U.S., including Roger Ibbotson, a Professor in the Practice Emeritus of Finance at the Yale School of Management and the chairman and CIO of Zebra Capital, who has written extensively on capital market returns, cost of capital, and international investment.
An Attractive Alternative to Traditional Fixed Income Options Like Bonds
In a recent report titled Fixed Indexed Annuities: Consider the Alternative, Roger Ibbotson concludes that fixed indexed annuities can help to control financial market risk, as well as mitigate longevity risk – which can actually be a multiplier of all other dangers to a portfolio because they are faced for a longer period of time.
Unlike regular fixed annuities, fixed indexed annuities (FIAs) provide the opportunity to attain a higher rate of return because they are tied to a particular market index (or multiple indexes), such as the S&P 500.
When the underlying index performs well in a given period, the annuity is credited with a positive return – typically up to a set maximum, or “cap.” However, when the index performs poorly, the investor is not at risk of losing principal (or even the loss of previous gains in the account). Rather, the account is simply credited with a 0% return for that period.
In the course of Ibbotson’s research, a fixed indexed annuity using a large cap equity index outperformed long-term bonds with similar risk characteristics. In addition, the annuity also provided better downside protection than the bond over a period of time from 1927 to 2016.
Fixed indexed annuities can provide a long list of other features, too, that cannot be found using bonds, such as:
- A set, guaranteed income for life, regardless of market or interest rate conditions
- Tax-deferred growth
- Death benefit
- Living benefits whereby funds from the annuity may be accessed free of surrender charges in the event of a terminal illness or long-term care need
Are FIAs Too Good to Be True?
If a fixed indexed annuity sounds too good to be true, it isn’t – and there are several reasons for this. First, because they are an insurance product, these financial vehicles can provide guarantees that other investments simply can’t. This is due in large part to the use of mortality credits and “risk pooling.”
Another advantage of fixed indexed annuities, according to Ibbotson’s research, is the ability of the underlying insurance company to “transform” equity returns into a more “tailored” return/risk profile, which can eliminate downside risk and provide an opportunity for interest earnings that are based on a portion of equity returns.
As a “tradeoff” for giving up some of the underlying index’s upside performance, the insurance company takes on the risk of the index falling below 0%. Many investors who are preparing for retirement find the downside protection or FIAs very attractive, as it not only keeps principal safe, but it also allows for gains to build on top of previous gains, without having to “get back to even” following a loss.
How to Narrow Down the Right Bond Alternative
Annuities have a lot of moving parts – particularly fixed indexed annuities – so before you commit to purchasing one, it is important for you to have a good understanding of how the product works, and whether or not it is the best option for meeting your specific short- and long-term needs.
Having an annuity specialist on your side can help. That’s where Annuity Gator comes in. We’re specialists in annuity education, with a primary focus on helping consumers sort through all of the “fine print,” and narrow down which annuity – if any – is right for them.
If you’d like objective guidance on what to anticipate when owning an annuity, as well as on how these financial vehicles can be an ideal alternative to owning bonds, contact us at (888) 440-2348, or send us a message through our secure online contact form and set up a time to chat with one of our annuity specialists. We look forward to hearing from you.