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The Power of Zero

We believe the most powerful feature Fixed Indexed Annuity (FIA) products is their guarantee against losing money if the associated index, such as the S&P 500, goes down. This means that even if the S&P 500, or other linked index, were to go down by 10%, 20% or even 50%, the value of the FIA will not decline.

We believe that the second most powerful feature of an FIA is the “Reset Feature.” The Reset Feature automatically resets the annuity’s index value at the end of each contract period. When the index value resets, interest you’ve earned during the period is “locked in” and cannot be lost. Additionally, if the index – for example the S&P 500 – is down for that period, no interest will be credited to your account for the period. In other words, your account value does not decline, and further, when the index value resets, your account will start tracking the index from that low point. There is no need to wait for the index to “get back to even” before you begin earning interest.

All FIAs have a reset feature, but not all of them are reset annually. We prefer the annual reset design because we feel it gives the best long-term growth potential.

These are two features that can be tremendously beneficial for appropriate investors:

1. Downside protection of your money
2. Upside participation in the equity markets without the risk of loss.

Source: American Equity Funds

An Example of The Power of Zero

Modern FIAs can be used to provide principal protected growth, guaranteed lifetime income, or both growth and income. The below charts show the “Power of Zero” when using a fixed indexed annuity for principal protection and growth. The below charts compare 12 years’ worth of annual returns of the S&P 500 vs. a Fixed Indexed Annuity linked to the S&P 500 with a 50% participation rate and no cap on earnings.

And here is what the growth of a $500,000 investment looks in the S&P 500 and in a Fixed Indexed Annuity looks like, based on the above criteria and returns.

FIAs vs. The Stock Market

Fixed Indexed Annuities aren't designed to outperform the market. They are designed to protect your principal while allowing you to participate in the positive movement of the stock market.

We don’t like to compare them to the stock market because we believe they aren’t designed to compete with the stock market. They are designed to compete with bonds, CDs and other historically less volatile investments. Having your “safe” money (i.e., money you are less comfortable putting at risk) indexing to a growth tool like the S&P 500 while still having principal protection can provide the potential for higher annual returns than other less volatile or more secure investments, such as bonds or CDs.

The above example demonstrates the “Power of Zero,” and how a financial tool like a fixed indexed annuity has the potential to provide higher returns compared to bonds or CDs, without taking on the volatility of, for example, a direct investment in the S&P 500.

In 2008, 2011, 2015 and 2018 the S&P 500 had negative returns. In all those years, an FIA would have lost nothing.

If the S&P 500 rebounds, your account grows in value based on earning a portion of that positive movement in the index. In the above example, the portion you earn is subject to a 50% participation rate, no cap and an annual reset. The principal protection feature means that you do not participate in market declines, but you start tracking the market from where it is on your contract anniversary due to the “Reset Feature”.

Some financial commentators, consumers and journalists may espouse an anti-annuity position. We believe they fail to grasp the “Power of Zero.” They may also confuse Fixed Indexed Annuities with Variable Annuities. Variable Annuities have been around for much longer than FIAs and do have several layers of fees as well as exposure to market risk.

On the contrary, the vast majority of FIAs have no annual fees, and all FIA products carry no exposure to market risk.

In our view, the above example puts forth a strong argument that the right fixed indexed annuity can provide safety of principal, higher returns relative to fixed income products like bonds, and may be considered for being a core part of a retirement plan.

FIAs in a Retirement Plan

Many of the retirees we speak to appreciate knowing that a portion of their money is not exposed to market risk, but still has more growth potential than just holding it in cash or CDs. Considering longer life expectancies, we believe that retirees may need a specific plan to help grow their retirement assets as well as preserve them. Unfortunately, many people are also afraid of the stock market, and potentially losing large sums if they invest directly in the stock market.

In response to this, some investment management firms offer investment strategies which may move investors in and out of the markets based on market volatility, with the goal of avoiding exposure to market crashes. This is a form of “market timing.” Strategies that attempt to outperform or reduce volatility for investors by timing the market have been shown to be ineffective and costly for the vast majority of investors.

To protect your money in retirement, our view is that investors should focus on asset allocation. Proper asset allocation can help align your portfolio to your vision, goals, risk tolerance, and time horizon. Our Core4 planning and investment framework is how we help our clients accomplish this. The four segments, or pillars, of the Core4 are Peace of Mind Allocation, Public Real Estate, Dividend Stocks, and Mutual Funds and ETFs — asset classes that we believe may help our clients enjoy a better retirement and have more successful investing outcomes.

Pillar One of the Core4 includes financial tools such as Fixed Indexed Annuities. We focus on products that are uncapped, protect principal against loss, participate in the upside of the stock market, and have an annual rest feature.

The FIA is a tool that may help to bring peace of mind, security and growth potential to your retirement. While we believe that investors should be cautious against over-allocating funds to Fixed Indexed Annuities, we also believe that many retires will be able to take comfort in knowing that a part of their portfolio is protected with good potential for growth.

That’s why Fixed Indexed Annuities are a part of our Core4 investment and planning framework at Oak Harvest. For those that need and desire the features offered by an FIA, we can help build a plan and portfolio that includes these assets. However, for investors with different needs or a higher risk tolerance, we may allocate more funds to other Pillars of the Core4, like Dividend Stocks and low-cost ETFs and Mutual Funds. We are always focused on your needs, not product, in our advising process.

Oak Harvest is agnostic when it comes to which financial tools are used to bring your vision to reality in retirement. As fiduciaries, it’s our job to use the best tool for the job for your situation, and we focus on this by building portfolios designed to stay within your risk tolerance, and help achieve your vision, goals, and objectives.