nronronronro - excellent to see you back here again!!
This is a very interesting question; as we know, there is no such
thing as a free lunch and whenever something seems to good to be true,
well, it probably is, right?!
"Equity Index Annuities" is a misnomer - it's an advertising gimmick
meant to reel in unsuspecting investors. In practice, these annuities
have caps so that you will only enjoy some of the appreciation of the
stock market, and not all of it. As an example, an annuity may have a
6% cap - so, even if the participation rate is 90% and the market is
up 12%, you will get 6% and not 10.8%. Caps differ, but they are
likely to negatively correlate with participation rates, so that the
higher the cap, the lower the rate (effectively, this means you are
paying higher management fees for higher caps).
As is probably now clear, these annuities are therefore not really
different from regular annuities - the difference is in the way
interest is calculated, and the insurance company will make out like a
bandit if we repeat a period such as the 1970s... Based on the
implied (typically inaccurate) claim of market returns, managers of
these products do extract higher than average fees.
What else? Of course, there is no FDIC insurance. While insurance
companies are regulated and must manage adequate reserves, who's to
say insurance company management will not engage in fraudulent
behavior ala Enron, MCI or Global Crossing?? Recent mutual fund
scandals provide a striking example. So, while the law dictates such
reserves, when the time comes to pay up there is some risk that there
will be no such reserves...
The tax claim, while correct if one plans to withdraw a lump sum
payment, can be mitigated by taking periodic payouts. Especially if
one's retirement income is average, this is not a critical
Finally, my personal belief is that a semi-intelligent active investor
will do better managing his own savings by investing in a
well-diversified portfolio of mutual funds through Roth IRAs, 401ks
and other retirmement type accounts.
I am of course available for additional deliberation as needed!!!
Clarification of Answer by
01 Mar 2004 10:45 PST
nronronronro - of course. The key, I think, is in the perspective you
take on these "Equity Index Annuities" - they are not really an
alternative to investing in the market, they are just another flavor
of the standard annuity contract. The verbage happens to be such that
they SOUND like a stock market type investment, but the whole stock
market argument is really just another way of setting rules and
contraints for the payout. The guarantee, therefore, is the same
guarantee of principal any annuity buyer receives - don't you think?
There is really nothing materially different here.
I think the key is to present this product to clients as what it truly
is - a different spin on the annuity product. btw, watch the fine
print carefully because some of these will pay NOTHING if withdrawn
prior to maturity...
As for the small investor in the market - if you can lead clients to
construct well-diversified portfolios, then with a 15 year plus
horizon, and given that they do not invest in individual stocks, they
should do well. The people who really took a beating were those who
were invested in the "99 club" (Internet stocks that declined more
than 99% from their highs), or those who were heavily into technology.
Discipline and diversification is key.
thanks again -