Analysts at Cannex Financial Exchanges Ltd. have come up with data to support a common belief about indexed annuities: that limits on the amount of index gains an annuity owner can keep are a big deal.

The issuer of a non-variable indexed annuity guarantees that the holder will earn a minimum, fixed rate of return. The issuer then adds an adjustment to the return if a stock market index, a bond market index or other specified index does well.

In practice, many issuers manage their risk by putting limits, or caps, on the index-related increases in the crediting rate. Some insurers have emphasized high rate caps when introducing new annuities.

The Cannex analysts — Branislav Nikolić, Tamiko Toland and Damian Baboolal — tried to measure how much participation caps, and some other common indexed annuity features, affect returns by comparing the performance of 14 indexed annuities from issuers of similar multi-year guarantee annuities.

An issuer of a multi-year guarantee annuity promises to pay a fixed rate for a period of two or more years.

The analysts used data from the Cannex annuity comparison system to study how the indexed annuities and the otherwise similar multi-year guarantee annuities might perform in a wide range of scenarios.

The analysts looked at the formulas, or crediting strategies, used to calculate the index-based adjustments, along with other annuity characteristics. The analysts also looked at the contract rate cap, and the participation rate, or the percentage of the index return used in crediting calculations.

The analysts found that, over a seven-year period, seven of the indexed annuities studied would do noticeably better than the comparable multi-year guarantee annuities in 60% to 80% of the scenarios tested.

Four of the indexed annuities would do noticeably worse than the multi-year guarantee annuities about 60% to 95% of the time.

Three of the indexed annuities were less predictable: They might do better than comparable multi-year guarantee annuities in many scenarios, worse in many scenarios, and about the same in many scenarios.

Ten of the issuers set rate caps. Five of the indexed annuities that performed much better than the comparable multi-year guarantee annuities had rate caps over 5%. At those companies, the rate caps ranged from 5.85% to 9.65%. For all scenarios, the average difference between the indexed annuity return and the multi-year guarantee annuity return ranged from 0.38 percentage points to almost 1.5 percentage points.

One issuer with a rate cap of 6.25% had indexed annuities with mixed results. There, for all scenarios, the indexed annuity had an average return that was 0.29 percentage points higher than the return for the comparable multi-year guarantee annuity.

For the four indexed annuity issuers with rate caps under 5%, one had mixed results, and three had results that were noticeably worse than the results of the comparable multi-year guarantee annuities.

For those indexed annuities, the rate caps ranged from 1.7% to 4.5%. For all scenarios, those indexed annuities did worse than the comparable multi-year guarantee annuities, with the gap ranging from 0.29 percentage points to 1.78 percentage points

The analysts also found that the indexed annuity contracts with point-to-point crediting formulas tended to do better than the annuities with other crediting formulas, such as formulas based on annual performance triggers.

— For a sampling of our annuity market coverage, see our Annuity Market Archiveon ThinkAdvisor.