Misleading Marketing of a Fixed Indexed Annuity
I like to point out sales tricks that are misleading so that you can make better decisions when it comes to annuities. As I have always said, annuities aren't for everyone. However, they are good for people who want very conservative returns, don't want to take risk, and want principle protection.
You have to be careful when an insurance agent or financial advisor shows you performance numbers on a fixed annuity. Here is a good example of an email that I received today. It showed these numbers:
- a 14.36% 1-year return.
- a 12.62% YTD return.
- an annualized return of 6.36% since 1996.
- 100% Principal Protection.
1 - This annualized return includes back-tested performance during the time period referenced. The live index date was 03/13/2015.
Not a bad deal. Double digit 1-year returns, a guarantee you won't lose money, and a 6.36% average return since 1996. Who wouldn't want that?
When an insurance agency guarantees you will never lose principle they have to be compensated for that protection which limits the upside of what you will make. I am guessing the benchmark is around 3 to 4% on average return on average and the insurance company stays profitable. However, they are touting a 6.36% average return. What gives?
Insurance companies have a built in safety valve to assure that they make money. They can change the formula each year which governs how much an investor can make. When they run these illustrations that show 6.36% a year they are assuming that the insurance company kept the formula constant and never changed it. That is highly unrealistic. Insurance companies are there to make money. So it is misleading to quote that average annual return since it isn't realistic.
This last year was an anomaly for fixed indexed annuities. They performed very well. So the combination of these numbers makes for a great sales presentation.
If you are looking at annuities, make sure you are working with someone who has your best interest in mind.