Ok, yes I might have stolen my title from the investment guru Ken Fisher (If I only knew how to use hashtags, then I could make this so much cooler). I’m sure you’ve seen the Forbes’ columnist’s advertisement stating “I hate annuities, and so should you!” Interestingly enough, as of 6/30/2014 Fisher Investments was the 6th largest shareholder of American Equity.
Although Mr. Fisher clearly doesn’t think much of annuities, he could assume it’s a great money maker for insurance companies. However, how many companies are successful if the product they produce isn’t worthwhile or competitive? I’m not sure Sir Ken really “hates” annuities as he proclaims. I think he’s just bearish on them. Maybe he sees an annuity industry full of bullish propaganda and thus hasn’t looked fully at all the positives.
Are you bullish on annuities or bearish? I love annuities (fixed annuities, but that’s a different post) and I’m bearish because of the mechanics most of us ignore.
Last year I sat in a conference where the attendees were able to ask questions to some of the top agents of one particular carrier. The conversation led to index strategies: which one was the best, how do they explain it, when do they switch to this one or that one. I was astonished at how many agents felt they could pick the right strategy at the right time.
Different strategies capture different gains during different market styles. Thinking you can pick the right strategy at the right time is no more insane than thinking you can time the market correctly.
So which is best? Uncapped, capped, spread, average, participation rate, etc…they’re equal despite what some marketing pieces might allude to. The key here is to understand the underlying concept. The insured gives the insurer $100 dollars. The insurer invests $92-$93 in bonds with a maturity date very close to the surrender schedule of the annuity purchased. The remaining goes to overhead, to commissions and to options.
How do you know how much is going to purchase options? Simple. What’s the fixed interest rate in the annuity? If it’s 2 percent, then $2 out of every $100 went to options. In English, this simply means the insurance carrier has $2 to spend for any of the indexing strategies the insured chooses. This is very important.
If one strategy is capped whereas another is uncapped, then does the insurer pay different amounts for different options? No! If there are five indexing strategies, they spend the same amount on any chosen. Don’t agree yet.
Think about it this way, an insurer has a desired spread, which is what they earn on the general account minus what they spend on the annuity. They’re not going to enter into an agreement whereas one particular indexing strategy they will achieve their desired spread while another strategy they do not. This concept would not be actuarially sound.