Lifetime Income Benefits Lead the Way in Providing Financial Security
In 2000, when the tech bubble burst and the NASDAQ tumbled from its 5,000 index-peak, Jake Eagle, a former small businessman who had gone back to school to train as a counselor, saw about half of his and his wife’s retirement investments disappear in the months following the crash.
Many Investors Turned to Annuities to Protect and Grow Retirement Savings
In most cases your investment is insured against loss and a minimum growth rate is guaranteed. Examples of products with underlying guarantees can include:
But more disturbing for the 55-year-old Eagle was what the market losses did to his retired parents’ savings.
“My folks were in their mid-70s, and had been in the market naked, with no protection whatsoever,” Eagle recalls. “Their broker was a very aggressive guy and had them in growth funds and individual stocks. They basically lost two-thirds of their money. They were devastated financially.”
Eagle began looking for “growth strategies that limited their risk.”
His research led him to variable annuities — insured investments that offer a minimum annual income guarantee. He liked what he saw and moved his parent’s money into an annuity portfolio. Impressed with the returns, he moved his own money into annuities a few years later. He acted just in time.
When the 2008 markets came crashing down, his family’s investments, now insured, were secure.
“I think it’s fantastic. There’s no way you could have promised me these results,” Eagle says.
In the age of popped bubbles and lost wealth, those about to retire are scrambling for answers. Census figures put the number of people 65 and older at about 12% of the country’s population. But that figure is projected to grow 74% by 2014. The economic crash has diminished their expectations for Social Security. Meanwhile, the traditional pension plan is fading from the labor landscape. Its replacement — employee-contribution programs like the 401K — had the rug pulled out from under them following the market crashes of the new millennium. All of this means that people will have to get creative about paying for their retirement.
From the wreckage, annuities have evolved to become the market’s safety net. In 2009, holders of variable annuities actually saw their income grow as the S&P Index fell almost 40%.
“I think the demand and need for these kinds of products is only going to increase,” says Jeffrey Mackey, director, annuity product management for Ohio National Financial Services. “Defined benefit pensions are not going to come back.”
As Greg Cicotte, president of Jackson National Life Distributor, one of the three largest purveyors of annuity products, notes; “When you have two crises so close together in one decade, it’s going to be a long time before people feel completely comfortable again” in the market unprotected.
The term “annuities” refers to a broad range of investment products. At their heart, they are a contract with an insurance company that guarantees tax-deferred income growth on your investment in exchange for regular payouts at some future date. Depending on the type of annuity, your rate of return is either fixed to a specific interest rate (a fixed annuity); linked to the performance of a specific market index (index annuity); or has its performance tied to specific mutual funds you have invested in (variable annuity). In most cases your investment is insured against loss and a minimum growth is guaranteed — but products vary widely.
When variable annuities first emerged they were a little-known, and widely distrusted, investment vehicle. They were complicated to understand and the fee structure was more expensive than other more speculative strategies. Early annuity contracts gave investors limited access to that money — often after investing the money you did not have access to it in any other form but a small allowable percentage. Even as their popularity grew during the 2000s when people began looking for retirement options, many investment advisers didn’t see the need for paying extra to insure investments in a market that was continually growing.
“I used to think they were a bad idea,” says Moshe Milevsky, an associate professor of finance at York University and executive director of the Individual Finance and Insurance Decisions Centre at the Fields Institute in Toronto, Canada. “Because they used to be not much more than an expensive tax shelter.” (Moving money between annuity accounts was not considered a “taxable event.”) Then the housing bubble burst. Suddenly protecting your investments made sense.
Now, Milevsky says, “they should be part of your retirement portfolio.”
He’s not alone.
“Right after the crash, there was an influx of money into annuities,” says Jean Setzfand, director of financial security for AARP, the non-profit of note for the retired set. And despite often getting a “bad rap,” as she put it, because unethical advisers pushed the wrong product on the wrong person, she’s a qualified fan. “Gone are the days when your employer gave you a check for life. All anyone can rely on is Social Security. So, immediate fixed annuities are possibly a good way for people to build up a secured income stream. It can create a pension of sorts, and that can give people significant peace of mind.”
In 2007 AARP made available to its members a New York Life Insurance Co. annuity it called the “lifetime income program.” AARP noted that “as traditional sources of retirement income, like pensions, become less and less available … many AARP members have expressed interest in the potential of annuities to help fill their income gap.”
It’s fantastic. There’s no way you could have promised me these results.
As competition grew many companies began offering annuities with attractive interest rates, benefits and incentives.
Ohio National, which had been in the variable annuity business since 1969, responded to the increased market demand in 2010 by offering its Guaranteed Lifetime Withdrawal Benefit Rider that locked in market rises in addition to offering a simple 8% interest rate.
“It’s been very well received,” Ohio National’s Mackey says. “You still have market upside potential but with downside protection.”
But investors should proceed cautiously.
“Annuities are more complicated than mutual funds or ETFs (exchange traded funds),” Milevsky says. “You want to work with an advisor, and they will charge you for it. But I would not advise a novice to go out and do it themselves.”
Jackson National Life acknowledges the complexity of these products. “That’s why we don’t have a direct consumer model, we work with the financial advisor,” Cicotte says.
Eagle, for one, spent months trying to figure out his options in the market place in the wake of the 2000 crash. Financial adviser Tom Hamlin, CEO of Somerset Wealth Strategies, an independent firm in Portland, Oregon, was crucial in helping him understand how annuities could help.
“We’ve spent tens of hours on the phone,” Eagle says. He wanted to feel a level of comfort before transferring what was left of his parents’ savings into this strange new product. But once he understood the security and the returns, he was a convert. “Not only did I move my folk’s money to Tom, but after about three years, my wife and I moved our funds to Tom after we had lost about half our money in the crash.”
Hamlin, who is also branch manager at Raymond James Financial Services, is an unabashed proponent of annuities. “The products we seek to identify aren’t too good to be true, but they are too good to last,” Hamlin says. “With the demise of the coveted defined benefit plan, the top annuities do the best job of picking up where they left off. What other investment can guarantee you lifetime income, many with a hedge against inflation (at additional cost) and market participation?”
Then, echoing Milevsky’s caution about their complexity, he adds; “There are 15,000 annuity products on the market, and most are not worthy of an investor’s hard-earned money.”
Hamlin was eventually able to re-grow Eagle’s retirement savings. When the market collapsed again, Eagle says he had the security of knowing that if he were to withdraw income today his benefits wouldn’t go down. And if he wants to wait longer, his benefits will continue to grow at 6%, even if the market never recovers.
“It means we’ve slept well the last two years,” Eagle says.
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