Bull markets typically last 4, maybe 5 years. The current up-trending market has been with us for an astounding decade. Few predicted such a long run, and it’s been wonderful. But there’s little that lasts forever, which is why you need to develop a market protection strategy as you near retirement.
For retirees, and those approaching retirement, the prospect of a market reversal is unsettling. You need income in your retirement years. Social Security will only cover a fraction of your needs, and few are lucky enough to have a pension or other employer-sponsored plan. What are your options for generating income—while also putting a market protection strategy in place to shield yourself during a market downturn?
Fixed index annuities (FIAs) can provide much-needed income, while giving you a safeguard against a market correction. Similar to other annuity products, FIAs provide the policyholder with a series of regularly dispersed payments over a set number of years in exchange for upfront premiums. This establishes that your principal is insured, and you have the opportunity to participate in market gains—while also having a cushion if the market falls.
Here, we take a look at this helpful and often misunderstood product, and why you may want to consider it as part of your diversified retirement portfolio and market protection strategy.
Annuities can take different forms: fixed, variable, deferred, and immediate. To the uninitiated, the variations can be dizzying, so many find themselves wondering: “Is this a good or bad option for me?”
FIAs guarantee the principal, lock in market gains, and offer the option to add riders for a lifetime income stream (more on these below). These three critical factors help make this product a powerful tool to generate income in an unpredictable market.
Fixed index annuities offer principal protection and lock in gains and protect against potential loss. Higher risk annuities, like variable annuities, often do not guarantee that the purchaser won’t lose their initial principal. If a market downturn were to occur, a retiree invested directly in mutual funds inside a variable annuity could watch their retirement account take a crippling hit. In contrast, a retiree holding a fixed index annuity would lose no principal.
And what happens when the market performs well? The annuity holder participates in that growth. The amount of participation will vary based on the contract, so it is important to read the fine print before signing.
These unique properties balance the need for safety and reward of positive market conditions to make this retirement solution an attractive product for those approaching or in their golden years. Unlike directly investing in stocks or alternative investments, the account principal is always protected. And with the ability to participate in market gains, FIAs have the potential for higher returns than bonds, making them a great tool to utilize in your market protection strategy.
Not only do FIAs have the potential to participate in stock market gains, they allow those gains to compound. When the market does well, the FIA receives a portion of the gains, and those funds are then added to the initial principal.
Here’s the really attractive part: that new, higher value is guaranteed by the contract. If the market takes a downturn, the annuity doesn’t lose a penny of what the FIA has already earned—the amount is “locked in.”
This ‘lock-in’ feature is especially useful in a downward trending market—it takes advantage of the moments when the market is doing well—and secures the principal when it wavers.
Since nobody knows exactly when the next correction—or recession—will hit, it is important to start planning early. By adding a supplementary income rider to a fixed index annuity, the annuity holder can have a stable stream of additional income well into the future.
An income rider is an enhancement to the contract that guarantees a lifetime income stream. In an annuity contract, this may be called either a Living Benefit Rider or a Guaranteed Minimum Income Benefit (GMIB).
As its name implies, a Guaranteed Minimum Income Benefit ensures that the income base – the value that lifetime income payments are based on – grows at a guaranteed minimum rate. If the market indexes outperform the minimum guarantee, your income base would reflect that higher return. However, if the indexes perform poorly, you still have a predictable stable growth to drive your future income.
Income value guarantees vary widely from product to product. Consult an annuity specialist to weigh your income rider options.
In a falling market, the guarantee of principal with the potential for upside gains can help to provide a stable retirement and marketing protection strategy. Keep in mind: fixed income annuities are a long-term contract—they are a type of deferred annuity with payments meant to start in the future and not immediately. Holders can’t withdraw principal prematurely without incurring penalties.
However, there is some liquidity built into FIAs. Contracts allow for limited annual withdrawals, typically of 10% of the accumulated value of the annuity. This money can be used as supplemental income while your annuity continues to track market indexes.
When part of a retirement income plan, they can safeguard the principal investment while also generating income growth—a balance of risk and reward that is hardly matched by other annuities or investment options.
Choosing the right retirement planning solution is all about matching product features to your personal goals. DeWitt & Dunn are experts in annuities, with a specialized focus on fixed index annuities and income solutions. To decide if a fixed index annuity is right for you, get in touch with DeWitt & Dunn today.
Annuity product guarantees rely on the financial strength and claims-paying ability of the issuing insurer. This material has been prepared for informational and educational purposes only. It is not intended to provide, and should not be relied upon for, accounting, legal, tax or investment advice. Please consult with a professional specializing in these areas regarding the applicability of this information to your situation.