Annuities

[Guest perplexedbypensions]

Is there an annuity product that lets you choose which index you want to be attached to, and then guarantees that you will receive that interest rate, and never lose any principal? How can investment companies guarantee income when the market is taking such losses? Do these types of funds generally have higher fees? It just sounds too good to be true.

Thank You.

[Ron Snyder]

Several insurance companies make such indexed annuities available, including AIG, Allianz and Aviva (formerly Amerus). I believe that Sun Life also has similar features for its indexed annuity. Indexes available generally include the S&P 500, the Russell 2000 and sometimes the STOXX 50 (European) and the DJIA.

They generally also include fixed interest alternative that will be based on the insurance company's current interest rate. Such annuities also provide a minimum interest guarantee, usually 2% per year for a 5-year period.

Does this really sound "too good to be true"? All the insurance company does is purchase the appropriate stock market option calls with a small portion of the premium and the rest is invested into a bond portfolio. The insurance company exercises the calls when the market index has gone up but in any event it keeps the bond yields to themselves. Only in the rare event that the stock market index failed to increase by 10% in 5 years does the customer get any return from the bonds, as those are held to secure the guaranteed 2% return. (A bond portfolio in today's market will still pay over 5% per year).

Please note that you could use the same strategy (on a no-load basis) in your own investment portfolio. Invest most of your funds into bonds or bond funds and purchase stock market calls on the selected index or indexes. If the index goes up, exercise the call (even if you have to do so "on margin"). This is not too good to be true, but simply a reasonable investment strategy. The only reason to prefer using an insurance company annuity is: (1) if you want someone to get a sizable commission; (2) you prize the insurance company's guarantee, or (3) if you have no idea what I was talking about.