By Tim Courtney, Chief Investment Officer
Annuities are one of the oldest financial products in the world, dating back as early as the Roman Empire.1 They were created to solve one of the most basic financial problems: the possibility of outliving your savings.
These simple annuities - giving a lump sum deposit to a third party who then pays you a percentage of that deposit every year for the rest of your life – are known as immediate annuities.2 Immediate annuities today offer better features than those of old and still seek to hedge the risk of outliving one’s savings.
You might think that as life expectancies have grown longer and interest rates (payouts) have risen, immediate annuities have become an increasingly popular choice. However, the best-selling annuities today are deferred annuities,3 of which are investment vehicles that defer taxes and defer the option to begin receiving regular annuity payments until a later date. These products are marketed under many names but are most commonly sold as fixed-indexed or guaranteed income annuities.
Why are these annuities selling so well? One way or another, these annuities guarantee exposure to stock markets with a layer of protection against the downside. The fixed index annuity offers protection from any market downturns. A guaranteed income annuity provides at least a minimum income for life regardless of market performance.
Ultimately, these guarantees come with a cost. There is no such thing as a free lunch, and no one is willing to take on our personal risks without charging appropriately. For guaranteed income annuities, annual costs typically range from 3% to 4% annually, plus annuitization rates are lower than those of immediate annuities.4 And while fixed indexed annuities have no stated expenses, they carry restrictions such as performance caps and participation limits that have the same effect on net returns as would a hefty annual fee.5
In our experience, fixed indexed annuities over most time frames produce actual returns of 1% to 4% annually and guaranteed income annuities 3% to 5% after fees and restrictions.6 So, while buyers may expect a 10% annual return from their annuity, most should expect low to mid-single digits.7
We think in ideal circumstances, annuities should be lightly used, if at all. However, annuities can be useful tools for some, provided they are structured correctly and suited to a specific need. Immediate annuities hedge investment depletion risk, and deferred annuities provide benefits such as tax deferral, asset protection, and performance guarantees. A buyer should know what these benefits will cost and be prepared for lower returns than what a market portfolio would produce. If you are considering or have already invested in an annuity product and want to know your options, an Exencial advisor is always happy to chat with you.
Sources:
- MarketWatch (6/12/13) - Do as the Romans did — with annuities
- Bankrate (4/30/24) - What is an immediate annuity? Benefits, risks and how they work
- Kiplinger (8/23/24) - What You Should Know About Annuities
- Investopedia (4/30/23) - Build Your Own Annuity
- Annuity.org (2/7/25) - What is the Participation Rate?
- Immediate Annuitites (2/19/25) - Index Annuities - Looking Back to Look Forward
- NerdWallet (2/20/25) - What Is the Average Stock Market Return?
PAST PERFORMANCE IS NOT AN INDICATION OF FUTURE RETURNS. Information and opinions provided herein reflect the views of the author as of the publication date of this article. Such views and opinions are subject to change at any point and without notice. Some of the information provided herein was obtained from third-party sources believed to be reliable but such information is not guaranteed to be accurate. In addition, the links provided within are for convenience only and the provision of the links does not imply any sponsorship, endorsement, or approval of any of the content. We do not guarantee the content or its accuracy and completeness. The content is being provided for informational purposes only, and nothing within is, or is intended to constitute, investment, tax, or legal advice or a recommendation to buy or sell any types of securities or investments. The author has not taken into account the investment objectives, financial situation, or particular needs of any individual investor. Any forward-looking statements or forecasts are based on assumptions only, and actual results are expected to vary from any such statements or forecasts. No reliance should be placed on any such statements or forecasts when making any investment decision. Any assumptions and projections displayed are estimates, hypothetical in nature, and meant to serve solely as a guideline. No investment decision should be made based solely on any information provided herein and the author is not responsible for the consequences of any decisions or actions taken as a result of information provided in this book. There is a risk of loss from an investment in securities, including the risk of total loss of principal, which an investor will need to be prepared to bear. Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment will be profitable or suitable for a particular investor’s financial situation or risk tolerance. Exencial Wealth Advisors, LLC (“EWA”) is an investment adviser registered with the Securities & Exchange Commission (SEC). However, such registration does not imply a certain level of skill or training and no inference to the contrary should be made. EWA may only transact business in those states in which it is registered, notice filed, or qualifies for an exemption or exclusion from registration or notice filing requirements. Complete information about our services and fees is contained in our Form ADV Part 2A (Disclosure Brochure), a copy of which can be obtained at www.adviserinfo.sec.gov or by calling us at 888-478-1971.
