Bob Hollick column headshot

Bob Hollick

The federal reserve chairman changed his position last week and said inflation is not temporary and our monetary policy must change. Simply stated, interest rates will rise over the next year as the government reduces the money supply. If you think that this means back to a point of 6% CD rates, I would not count on it.

High rates of return and no risk do not exist. The problem is as we age our time horizon changes (when we will need the money). With a shorter time horizon our ability to take risk diminishes. When I say take risk, I am talking about investing in stocks.

At the same time your time horizon shortens medical science has increased our life expectancy. You will need more money because you will live longer and will need more long-term care.

So how do you get a better rate of return while minimizing your risk? There are several ways, but today I am going to explain the advantages of a variable annuity. A variable annuity has all the advantages of fixed annuities (differed taxes, guaranteed income when annuitized, lump sum or systematic investments). What is different is instead of a fixed rate of return you can choose to invest in a portfolio of stocks and bonds. At this point you should be thinking if I’m investing in stocks how do I minimize my risk?

Traditionally a variable annuity allowed you to minimize risk by choosing a portfolio of stocks-to-bonds ratio that reflected your risk tolerance and time horizon. Sixty percent of your money would be in stocks, 40% in bonds, as an example. As you aged this ratio could be changed, 20% in stocks, 80% in bonds. While this strategy works to minimizing risk, it fails to address the problem of living longer and needing more money.

In an attempt to address this problem, insurance companies, the only issuers of annuities, have been developing new products. Remember when I explained fixed annuities the insurance company quarantined a rate of return so the investment risk was assumed by the insurance company. The same principle can be applied to a variable annuity. The insurance company can offer a guaranteed rate of return while allowing you to stay invested in the market. If now you are saying this sounds too good to be true, understand you will pay a fee for this.

Unlike you, an insurance company has an infinite time horizon. They can stay invested in the market forever. With that understanding, if they guarantee you 4% while earning 6%, then they make money and you get a higher return with lower risk.

The next question you should be asking is, What if I don’t live long? What happens to my money? If you have loved ones you are concerned about, for a fee you can purchase a guaranteed death benefit based either on the money deposited or the amount accumulated.

Understand this article is explaining the concept of lowering risk while staying invested in stocks. Each insurance company variable annuity has different features and needs to be throughly explained. Variable annuities also can only be sold by individuals who are licensed to sell securities and these individuals must practice the fiduciary responsibility of acting in the best interest of you.

See what people are talking about at The Community Table!

Thank you for reading!

Please purchase a subscription to continue reading. If you have a subscription, please Log In.