Equity Indexed Annuities: There Are Better Alternatives
Every investor would like to increase their income without compromising their stability. Maybe that’s why Equity Indexed Annuities (EIAs) have become so popular, because of their promise of providing a stable income stream. But there are a number of ways that you can easily outperform what an EIA can deliver. In this article, I’ll show you how to meet your need for stability and income in your portfolio.
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One of the main sales-points of EIAs is their promise of a stable income stream. Many nervous investors are comforted by the thought of a guaranteed minimum return on their investment of 3%, especially in today’s low interest rate environment. They’re willing to accept this small return, because they think they are able to participate in the growth of the stock market without all the risk.
But what these investors have done is confuse objectives with risks. Because of their fear of losing money in the stock market, they settle for a paltry return. They’re trying to meet 2 objectives: growth and stability, with the same investment. How much better it would be for them if they used separate investments for their different objectives.
Growth and stability investments each have their own set of risks and rewards. By combining the use of both, the risks balance each other and you get the rewards of both.
Unfortunately in an EIA, its growth potential is severely limited by caps and high fees. Next week I’ll discuss how to boost your returns in your growth investments. Right now, let’s take a look at how easy it is for you to outperform the guaranteed rates of EIAs.
There are many better alternatives for the stable portion of your money. These include government guaranteed Certificates of Deposit (CDs), U.S. Treasury Inflation Indexed Securities (TIPS), government and corporate bonds, guaranteed investment contracts (GICs), and Real Estate Investment Trusts (REITs).
These alternatives can provide the stability you are looking for without forcing you to commit to them for 10 years. More importantly, if anything happens and you decide you want YOUR money back, you have much greater flexibility in these alternatives than you would in an EIA. On a CD for instance, the penalty for taking your money out early is typically a maximum of 6 months worth of interest. That’s considerably less than the 3+ years worth of interest penalty on some EIAs.
The rates of return on these stable alternatives are also better then the 3% offered by an EIA. Three year CDs are being advertised in my local paper pay just over 3%. TIPs are paying close to that and can increase what they pay as inflation returns. Government and Corporate bonds historically have averaged 5-6%. Even though they pay less than that today, interest rates are expected to rise over the next few years. Why would you want to tie your money up long-term at 3% in an EIA when interest rates are at 40 year lows?
REITs can provide a stable income and are a good alternative. For instance, many of my clients have invested a portion of their money in a REIT that is yielding 8.3% and pays the interest monthly. Another is yielding 7%. There are closed end mutual funds that invest in REITs that regular pay between 5% and 8%.
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Guaranteed Investment Contracts are like Certificates of Deposit but are offered by insurance companies. They are not FDIC insured but are backed by the ability of the insurance company to repay the money when due—just like all the money you would invest in an EIA. GICs from well-established insurance companies currently pay 3%.
You aren’t required to only choose one of these stable alternatives, either. Depending on the size of the stable portion of your investment, it could be divided between several of the alternatives to increase your safety and flexibility.
The key to having a stable income stream from your investments is to retain flexibility and control, while also keeping a healthy diversification between categories, maturities and issuers. As you can see, it isn’t that difficult to outperform an Equity Indexed Annuity. And you won’t have to lock up your money in the process.
Source: guardingyourwealth.com - 2003