We are going to begin a new series to discuss equity indexed annuities. In my opinion indexed annuities offer the best alternative to CD’s than any other fixed annuity currently available. First let me say that I have never been a huge fan of indexed annuities mostly because I didn’t see the trade off between potential higher returns and fixed returns offered by traditional fixed annuities.
Why am I now changing my tune on indexed annuities?
- CD rate are low
- Fixed Annuity rates are low
- I see interest rates rising in the future
- I see the stock market rising in the future
With these 4 things getting ready to happen, the stage is set for Indexed Annuities to take off. We need to first understand how they work in order to understand how they are beneficial.
How Indexed Annuities work?
Index Annuities first and foremost are a type of Fixed Annuity, that means are guaranteed. They offer a 0% downside risk potential generally with a minimum interest rate guarantee. An indexed annuity generally keeps track of two separate accounts. One that tracks an equity index (S&P 500, etc.) generally capped between 7-10% per year and another that tracks a minimum interest rate (similar to a CD) typically around 2%. At the end of the contract term (generally 5-10 years) you will receive the higher of either account.
There are several methods an indexed annuity can track the index but the most common is a whats called a point to point cap. At the end of a year they look back and see how much that index has risen or declined. If it has declined they credit the index account with 0% and start again the next year. If the account is positive they credit the index account with whatever the gain happened to be generally capped at 7-10%. Each year you begin fresh.
For example, one year your index account may get credited with 7%, the next year it may get credited with 2% the next year, maybe it’s 0% etc. This crediting continues until the contract expires. Meantime your fixed account is continuing to earn the minimum interest rate similar to a CD. At the end of the term you look at both the fixed account and the indexed account, whichever account is higher is the amount you recevieve.
In the next 5 years I see interest rates moving up and stock market having positive performance. With those predictions I favor indexed annuities for their upside potential to offset rising interest rates and their guaranteed minimum interest rates. If I’m wrong you essentially still have an interest bearing fixed annuity yielding a minimum rate of return (which is still higher than most CD’s) To discuss these further call me at (888) 515-7152 or email me at ryan@annuityrateshopper.com
Tags: Annuity Rates, Fixed Rate Annuities, Indexed Annuities