Why Retirees Should Consider Indexed Annuities
Given their inverse relationship, when bond interest rates begin to climb, bond prices decrease in market value—as they have been for the last year especially. When approaching retirement, what strategies are retirees left with to ensure long-term financial success?
Planning for the future, and retirement especially can happen one of two ways. Some retirees like bonds, but when that market becomes less attractive they may replace bonds with dividend stocks for example. However, while these investments may be viewed as more “controllable” and have potentially high returns they also pose significant equity risk exposure for individuals near or in retirement.
Simply put: slow and steady wins the race when it comes to retirement. Also, can retirees really bear another market plunge like 2008, when assets faced almost a 50 percent decrease in value?
Retirees have long regarded indexed annuities (also known as equity index, fixed index or fixed indexed annuities) as a risk management financial strategy. They are lifetime streams of guaranteed, fixed income with added insulation against volatile market conditions.
So why don’t more retirees use them? Unfortunately, a lot of arguments exist against their favor. Most struggle with annuities and how they promise future gain for present sacrifice; it’s hard for them to be able to value the annuity when there is so much uncertainty of events that will take place in the distant future.
Retirees also fear the loss of control when turning over their hard-earned money to insurance companies and potentially dying at an age where they cannot enjoy the fruits of their labor or even pass them on to loved ones. Annuity products are accompanied by many guarantees and prospective provisions (for an additional cost) to protect from losses of principal or guaranteed payments for a spouse.
Most importantly, retirees fear the security of annuities or the payment guarantees from private insurance companies compared to bonds or bank deposits that have federal backing. However, in the worst case scenario (i.e. when annuities and the highly rated insurance companies they’re affiliated with aren’t enough—an extremely rare occurrence), they can actually be protected by state reserves or state guaranty associations.
Annuities are an excellent long-term financial investment that offers guaranteed income, the potential for higher earnings, and the ability for earnings to grow tax-deferred—which is how they differ from many other financial strategies and ensure investor success. Tax deferral utilizes triple compounding; it pays interest on the principal, interest on the interest, and interest on the taxes individuals would pay if their annuity income was taxed annually.
Indexed annuities, in particular, can account a certain percentage (depending on the insurance company) associated with the gains in a common index, like the Standard & Poor’s 500 Index, without needing to actively manage their investments. Unlike direct market participation where one would have to constantly oversee their investments, if retirees were to allocate their funds to indexed annuities, then they wouldn’t feel the impact of losses when market conditions are negative.
All in all, indexed annuities offer a plethora of important benefits to investors that differ from bonds or dividend stocks. As mentioned above, they offer protection from market conditions, a decrease in or elimination of equity risk exposure, certain benefits of positive market index performance, and investment management simplification. They aren’t without their disadvantages, but most of the common concerns for retirees have simple solutions.
Indexed annuities generally require a long-term commitment as their terms typically last anywhere from five to ten years. Longer terms are even available that include many advantages from higher participation rates to the availability of premium bonuses. The duration of an annuity should not be of concern to who is not solely looking for short-term liquidity and results.
Although indexed annuities aren’t the perfect solution, a well balanced and diversified financial portfolio recognizes the value of long-term and short-term investments. However, given their many significant advantages, indexed annuities purchased from highly-rated insurance carriers are a worthwhile strategy for retirees who are willing to commit to their long-term duration.