Fixed Index Annuities have only existed a couple of decades. (See here for our fixed index annuity introduction.) We used to love them because they offered a large amount of the index gains with no chance for losses. You would often be offered Annual Point to Point Caps in the 10 to 12% range, so that you could have large gains when the market was up, but suffer no losses when the market was down. Clients who have owned these products for a decade have watched their accounts grow periodically over the years while people taking on the risk of the stock market have simply yo-yo’d back and forth.
However, over the years the Caps (and Participation Rates) kept shrinking. It has gotten to where you’re lucky if you get a few percentage points in the annual point to point cap these day. Now, this is typically still much better than keeping your money in the bank where it earns close to nothing. But it is hardly what we saw during the heyday.
The reason for this is the low interest rate environment. The way these products work is that the company lends out the money that you pay in as premium in a conservative way. They take the interest earned (over the cost of administration) and buy options on the index that you are participating in the gains of. If the index gains, they have the money to credit your account. If not, they still have your principal safe and secure.
Because interest rates have been so low, they have not been making enough money with client’s capital to afford the same kind of options that they did before. Thus, today, your participation in market gains in these products is much lower than it used to be.
However, there are still some products that offer some extremely attractive participation models. These are not the ones that are most prevalent in the market, but they are out there. But all in all, these products don’t offer the same upside as they used to. We would expect this to swing back in the other direction once interest rates begin rising and they could be incredible if rates rise as much as we think they will, but for now, people who own most of these types of products must console themselves with small index gains and focus on the incredible benefits that certain income riders offer (see below).
For those that own the products that still offer big upside, the potential is perhaps not as good as it was a decade ago, but it can still be very strong and without any chance of suffering a market loss.
As a side note, there is still a way to get the high caps that were once offered in FIA’s. This is through Fixed Index Universal Life Insurance. You’ll have to see that section in the coming days and weeks to get the full details there, but these products have a strong history over the last decade of trouncing the stock market without taking on the market risk.
This is the 9th post in our series of innovative new insurance products. You can find the previous posts at: 1) Innovative Insurance, 2) Long Term Care, 3) Long Term Care Solutions, 4) Free Long Term Care Insurance, 5) What is an Annuity?, 6) Immediate Annuities, & 7) Fixed & Variable Annuities, & 8) Fixed Index Annuities.