Annuity FYI Blog

It looks like there are some questionable practices going on with the financial strength rating institutions, according to “CalPERS Gives Rating Agencies an FFF” by Kerry Pechter in the Retirement Income Journal. Investors and advisers alike have historically put a lot of faith in the ratings from Fitch, Standard & Poor’s, and Moody’s.  The companies rate the financial strength of annuities, bonds, and bond funds through a letter value system.  Unfortunately, a lawsuit filed by California’s state employee pension fund (CalPERS) alleges that the companies have been biased in their ratings process by using an “issuer pay” model.  This model basically blurs the lines between the rating and the compensation received by the rating institutions.  They stand to receive a higher financial payout with better ratings since they are paid by the debt issuers that they rate.

CalPERS lost close to $1 billion by investing in Structured Investment Vehicles (SIVs) that had the highest long-term debt ratings at the time.  They believe that these ratings institutions negligently misrepresented the SIVs because of the issuer pay model pressuring them to give high ratings so they would get large returns.  All three ratings companies have promised to look into the issues and make changes if necessary, but also believe that the losses can be attributed to a difficult economic environment and “natural actions.”  The possibility exists that although the system used by these institutions may have been unethical, it may very well still be legal which would negate any lawsuit.  This makes it more important than ever to do your research in order to find the best annuities, bonds, and stocks for your portfolio.

In “Feeling TIPSy”, Kerry Pechter wrote about the value of Treasury Inflation-Protected Securities (TIPS) in the Retirement Income Journal.  TIPS are a form of insurance against inflation that is sponsored by the government.  The principal of these securities is indexed to the inflation rate and their purpose is to let the government take on some of the inflation risk for investors with fixed income.  The price of TIPS was all over the place last year since investors didn’t know what way inflation would go with struggling economic markets.  While many people believe that the risk of inflation is growing because of all the the economic stimulus plans, there are those who think it could be a decade before a large inflation occurs.

Regardless of the time frame, inflation is a given and TIPS are a great way to protect your 401(k) and other investment vehicles so that you have enough money to comfortably retire.  Compare annuities with inflation risk covered and those without and you can see why this rider would be valuable.  Not all 401(k) plans or other investments offer TIPS and they are currently the smallest holding in investment vehicles.  The main reason to invest in TIPS now, before large inflation occurs, is because of the price.  Costs will rise as we see this anticipated inflation actually occur.  Putting money into TIPS funds now ensures that your money will work for you as soon as there is a steep rise in inflation.