As one gets closer to retirement, according to accepted wisdom, one should take money invested in stocks and move it into less volatile instruments.
Savings accounts are a joke. CDs (bank ones, not music ones) aren’t a lot better. Bonds aren’t generating a lot of income.
On the radio the other day was a man pitching Fixed Income Annuities. Some work on Google shows these to be life insurance products in lots of different flavors. He (of course) made them sound like the greatest thing since sliced-and-pre-buttered bread. “Great returns, even in today’s market! Tax free! Safe investment! Cures sore throats!” Well, I don’t recall him saying that last one but he might have.
However, what I didn’t find out was how the insurance company selling the annuity guarantees the payback. Is this really the wonderful investment they make it sound like? How can the company make a profit or is it a Ponzi scheme where the new investors are paying what the established investors are collecting? I don’t really believe that as some big names (i.e. Fidelity Investments) offer the product.
If you have real-life experience with these, I’d like to hear about it. Should I be putting my money there instead of into collectible guitars? What’s the potential downside? Cut through the advertising for me and I will thank you profusely.
The company that guarantees the payback is taking on a certain degree of risk. They’re counting on their other investments producing enough income that they’ll get a higher rate of return than the annuity itself. Most annuities return in the 5-6% range while the stock market averages 8-10%, so it’s in the banks favor in the end.
There can also be a lot of fine print in annuities that favor the company. For example, many of them charge you high fees to get it set up. I know that 5% is not unheard of. Annuity payments may end upon the holder’s death. Annuities either do not permit you to cash them out or they hit you with high penalties (this way, the bank never has to pay it all out at once in the even that their invested assets go down in value). The fine print is what makes or breaks an annuity and they are NOT all equal.
Annuities can be a great product, but they need to be a fit for your actual needs. Part of the problem in the annuity market happens when a pushy salesman talks you into an annuity when you don’t understand it and don’t need it. (In fact, because the licensing requirements are different for annuity sales compared to securities sales, it’s often the case that the salesman can’t sell you anything other than an annuity).
An annuity is definitely better than your guitar collection. Whether it’s right for you or not, we can’t really say without a full picture of your age, earnings, retirement plans, other investments, etc. You want to talk with a retirement/investment advisor who can sell other products in addition to annuities. This gives you the best bet that the advice serves your needs and not just their commissions.
By the way, don’t discount bonds. (There’s a pun there if you’re into investor humor). 30-yr bonds are in the 5% range and that’s about all an annuity can promise you anyway. With lower sales/setup costs to get into bonds, they might be the better investment. It’s certainly easier to cash out bonds if your situation changes.