I'm not defending insurance companies here. I want to clearly define what's happening behind the scenes. That's my whole intention with it. Welcome to the Retire On Time q and a podcast. Podcast.

I'm Mike Ducker here with David Fransen. This show is an extension of the book How to Retire On Time. As always, text your questions to (913) 363-1234, and we will feature them on the show. Remember, this is just a show, it's not financial advice. Alright, David, what do we got?

Hey, Mike, can you explain why my indexed annuity lowered its rates and now I'm stuck with no growth?

Yeah. Yeah, I can. So one of the hardest things people people struggle to understand about fixed indexed annuities is they assume the insurance company is greedy. Alright. It's actually not the case.

The insurance company, more often than not, is actually more giving with the hope that they can sustain it. That's not a red flag. Here's what I

mean. Alright.

If the current market today really is gonna give you around up to 7%, let's say of the S and P 500, which is a very expensive index to buy options or derivatives in. K?

So option contracts specifically, you've got the right to buy and then make money if certain situations happen. If they don't, you let it expire like that costs money. K? The more volatile the market is, the more expensive those contracts are. Okay?

Fixed index annuity has to offer 100% downside protection. I should say most of them do. There's a couple that will, like, you'll take on for first 5% of losses. But generally speaking, that's what you're looking at.

And they're gonna offer you let's say let's say you're the market's offering, like, 7%, but they're gonna say, we're gonna offer you 10%. Well, why are they doing that? Because they have, let's say, ten years of your money. And they're not just buying those indexes. They're investing it around the indexes and in various ways that they expect that by the end of the contract, that they'll be able to sustain the rates that they're advertising.

When crap hits the fan Mhmm. Notice if the markets crash every seven or eight years, and it's a ten year contract

Okay. Right.

When crap hits the fan, volatility goes up, they're realizing, okay, actuarially, for the life of the contract, what's left, we can't sustain these rates. So we will have to lower them so that all things being equal, we're able to satisfy the obligations that we've committed to. So some companies will offer incredible introductory rates, and you get some great growth in the first couple of years, and then in year two or three, they'll drop the rates to a more reasonable, sustainable rate. Because by the end of the contract, they're on the hook for that. And they know if there's a surrender penalty, right, they're not saying, oh, we're gonna charge you fees for it.

They just need know your money's gonna be there. And if it's not there, they have to actuarially or predictably hedge their bets. Okay?

So this is why I think it's interesting. Insurance companies will call us and they'll say, hey, we've got this great product. It's proprietary blah blah blah, and the caps are incredible. The participation is incredible. The upside is incredible.

I'll say, well, how so? Because you're not inventing your own market. Mhmm. And it's like clockwork. The ones who promise the best returns are either overpromising, in my opinion, overpromising something that's probably not sustainable, and, like, in in the third or fourth year, it'll probably drop, which is fine because you're getting a reasonable x over the ten years, it all works itself out.

Or you've got the more modest ones that say, look, We're not gonna give you your highest caps, but we have traditionally a better renewal rate, which means what they promise stays the same. So let me give you an example.

So today, buffered ETFs right now, you can get up to, like, 7%, Maybe really, like, six and a half percent if you include the expense ratios. 50% on the downside protection, but they're year over year contracts. Okay? So an insurance company that's gonna offer around 7% cap, maybe 8% cap, like, that's a more sustainable rate. I'd say 7% cap right now.

At the time of this recording, that's going to change with time.

So if if a client were to buy that contract, 7% cap, I'd say, okay, this will probably last for for the the ten years. There's a there's a reasonable chance that it'll stay about there. Not guaranteed, but a reasonable chance. Whereas the other ones where it might be 12% cap, I'm not quoting any products.

I using this as an know that those will that those have a high probability of lowering those caps at some point, and they might, to compensate for it, might lower it to like a 5% cap Mhmm. Because they have to meet certain obligations over the life of the contract. Over the life of the contract, it's not that bad of a deal. It's just people will hyper focus on, well, this year I can only get this much. K?

Now that's on caps when you look into indexes, which is very expensive. And this is the other part. With indexed annuities, when you have risk volatility indexes, you're not actually buying into the S and P five hundred, and you're not buying the S and P five hundred with some, like, bond fund mixture like a sixty forty split would be. It is a risk control, so risk on, risk off. So it's an actual program or algorithm of how they're going to manage the market, and that will lower the upside.

So instead of like the S and P averaging, let's say, 9%, this is gonna average like 4% or maybe 3%, and you might get a 150% of our risk volatility index. Whatever their index is, they make them up all the time. K? That's that's tricky because from a cost standpoint, it technically is more sustainable to try and buy around a risk volatility index, which is more predictable, less risk, less volatility, more affordable, than it would be the S and P pure. And I I know this is more complicated.

This is we're getting into the weeds here, but the idea is it's more sustainable so they can do like a participation rate. The problem with this though is when you have whipsaw, when you have volatile markets, that risk volatility, risk on, risk off algorithm or equation that that that commands this index can get destroyed. And 200% of 1% is still 2%. Not that good of a deal. And so when markets are low risk, these things can be great.

When markets have all, like, a complete terrible situation, it's not that bad. But when markets are volatile, like they change on a dime, kind like what happened when Trump got in office this last term, because he goes in there and he'll tweet something or post something on X or Truth Social or whatever, changes the market completely, risk off. And then they'll tweet something else, and it changes the market completely, but it's too late for risk on. Oh. So people have a hard time saying, well, this is the S and P 500?

No. It's a risk volatility of the S and P 500. Wasn't that the same thing? They're completely different. Mhmm.

They influence each other, but they are very different. So you need to understand what you're getting into. Is it pure index? And if it's a pure index, that's expensive. So if they overpromise, it's probably gonna go down.

Or is it a risk volatility or an alternative index? Alternative, not like alternative investments, but a different type of index like a volatility controlled index. And if it's a volatility controlled index, you need to understand what does that really look like and what's the market predictions of that because that's gonna affect the price. Insurance companies that handle annuities aren't greedy. They're trying to show you a shiny object and promise you, well intending, to give you good returns.

I know the folks that build these products. I've grilled them. Mhmm. They really want to innovate something that's going to give you great growth, but they are restricted, economically speaking, by the contracts that allow these products to happen. And if volatility goes up or something shifts, they can't bend financial economics.

Yeah. And that's where things go sideways. So well and and and in the world of insurance, by the way, the people that are hedging like, you know, housing insurance and fires and all that, that's one side of the insurance world. This is a totally different side of the insurance world.

It's Okay.

Actuarially produced, but it's a very different situation. I'm not defending insurance companies here. I want to clearly define what's happening behind the scenes. That's my whole intention with it.

And so when you got into this business, did you have to just be willing to just dive in and ask the questions and do the research and, I mean, how?

No. Was fooled. Oh. I was fooled. So true story.

My father's a stockbroker. I mean, he's still in the business. Uh-huh. But I saw him in the nineties just killing it. Uh-huh.

I mean, he he did great. Right? And then 2,000 hit, and he was I mean, he he got his lunch handed to him. Mhmm. And he he was he's good at his job.

But when everything's going down, it's it's hard to figure out how to do things. And he he did well, you know, he was a good he was one of the I would say one of the better ones. I'm biased, but there you go. But I and I started working with him years later. This was shortly after 2008.

And we were introduced with to these things. Fixed annuities, fixed index annuities, all that. We weren't doing variable annuities at the time. And and we just it was back then, it was really simple, very very basic stuff. You bought this, There was five year notarization stuff.

Lifetime income was still, like, this new thing they're trying to figure out. They're still trying to like, there was just a lot of these things kind of just happening in the industry. It was very interesting. And then I I started seeing these, like, risk volatility over three year, over five year period of time, we're going, well, this looks really great. Mhmm.

But it looked too good.

And so because of the uncertainty, we would do additional due diligence. We would try and find things, and we'd go, I don't know about this one. Uh-huh. I don't know about that one. We'd ask question after question after question because we were just inherently skeptical.

And what we found was these insurance companies aren't making up stuff on the spot. There's just a side of the markets that they are bound to, and they're trying to innovate themselves into an advantageous way for the retiree to buy something that's more predictable that could be slightly better than a bond fund.

That's really what people are trying to do. Now some of them are built well. Some of them are built not well. Some of them are built great for lifetime income. Some of them are built great for cash accumulation.

I mean, they're all they're all kind of in different lanes.

But there was one I won't say which company this was or what the product was, but it was a very interesting product that was invested in the commodities market. K? So alternative to the stock market.

Alright.

But you had to buy it, and it was a five year point to point.

But the commodities market, that never experienced huge issues or so people thought Yeah. Or what we were proposed, what we were told. And then, like, two years after this product launches, the commodities market just went down the drain. It was it just took a tank, and so people didn't make any money for five years. I saw another one that was a three year product, and it was it looked incredible.

Risk volatility, it sifts through all sorts of things, award winning on the indexes, all the pomp and circumstance, and it underperforms. So you have to kind of understand just because things win awards, just because things are built well, doesn't mean they're going to maintain that way. So you have to kind of balance and understand what are you getting into and clearly to find the detriments. When does this go wrong?

When is the volatility going to affect the pricing and then lower your upside potential? And this is the one that I think most people miss. What is my exit strategy? See, I always like to have at least a five year out at any time if I can help it.

So you enter the contract, and within five years, I gotta be able to get all of my cash.

Yeah. So that that might be like we buy a five year contract or a seven year contract, and it's like, oh, this thing will probably hold up within, you know, one or two or three years Mhmm. And then we can get out of it quickly, and there's a you know, that's the idea, at least. If it's a ten year contract, can we get out with a five year clause without the surrender penalty? The and that that's not always the case, but those are things I wanna look at because if volatility increases and the pricing goes down, I wanna be able to know how to get out of

The insurance companies can't give you liquidity because of how these products are structured. Mhmm. But over a five year period of time, there are ways you can structure it so it doesn't hurt the insurance company, and it doesn't hurt you and you can get out. So it's just the amount people say they're complex. They're really once you understand what to look for, they're not complicated.

You just need to understand the restrictions that they're working within. You can't walk up to a chef and say, hey, look, I want steak dinner, and they're limited with their inventory. They've got pasta, they've got wheat, they've got veggies, they've got fish, but they they don't have any steak in their kitchen. Right? You have to understand the limitations that they're working with to understand then why certain things happen.

Insurance companies aren't greedy in the annuity space. They're just trying to give you their best foot forward and then survive.

And so how much if someone's going in to if they're coming into KEDRIC or wherever, how much should they be able to understand about the annuity before they, like, you know, fund the fund the policy?

If someone doesn't clearly go through the detriments of this annuity and what could go wrong, don't buy it.

I I purposely try to spend an entire at least half a meeting if not a full meeting, all the things that could go wrong, all the outs, the the things you don't want to know but you need to know.

If you can't like, if you buy a car Mhmm. Okay, you need to know, okay, this car does well in these situations. Like, I bought a Mini Cooper. Mini Cooper's gonna do well in the summertime. It's gonna be really fun and zippy.

It's it's there's benefits of getting around town in a busy city. It's easy to park, reasonable gas mileage for that kind of class, that speed, all of that, which is great. Mhmm. It's not gonna do well in the snow unless you get snow tires. That's a detriment.

K? If I were to get into an accident in its class, it's safer, but it's not safe. If I were to get hit by a semi, that MINI Cooper isn't holding up very well. K? There's always detriments.

So you don't buy a car hoping you get into a crash, but I need to know that that's one of the detriments. And if if my top priority is if I were to get hit by a semi, I want to be safe, I'm buying the wrong car, and the best time to know that detriment is before you actually buy it.

I see. Yeah. So you don't have to know how, like, the the stability control or the traction control or anything works in the car, but if you just know that it's there and that you can use it or know the detriments ahead

of time. Know the detriments ahead of time and your escape out of it and be okay with that. Illiquidity is not necessarily a detriment. It's a feature. And the reason why is if you have an illiquid product, the benefit of that is that you're going to have probably more growth potential than a liquid product with protection.

Right? You there's three things you want in all investments. You want growth, liquidity, and protection. You can't have all three. So in the category where you've got growth and protection, you have to give up liquidity.

So a feature here is that it's illiquid. The benefit of that is they know your money's gonna be there so they can invest it as such to give you slightly more growth potential. The detriment is you don't have access to all of your money at any given time, but you don't need access to all of your money at any given time. You don't spend all of your money in the first year of retirement. So that's why you ladder out your liquidity schedules so that you have enough liquidity for when you need it.

And that's all of this is predicated on what does your plan say, what strategies do you want to implement, and then what are the right investments or products that then can support those strategies and ultimately that plan. That's all the time we've got for this show. And this question, if you enjoyed it, make sure you subscribe, leave a rating, and subscribe to us on YouTube. Most importantly, that's the best place to to get this content. Go to retireontime.com to grab the book, the workbook, and all the other materials, calculators, planning materials.

It's all right there. Free to you except for the book. You gotta buy the book. Also, if you wanna join me live on the workshop, don't forget that. It's a great time where I build a plan live and answer your questions along the way.

As always, remember, this is just a show, not financial advice. We'll see you on the next episode.