When you see an investment report on a 401(k), for example, it most often shows the average rate of return on funds over the last 40 years. Averages do not show the impact on retirement of periodic drops in value. Reports give averages over a long-range period of time, but fund managers never want you to focus on the big drops that happen during the shorter periods in between. For example, in 2000 the S&P 500 dipped by -10.14%, then again in 2001 by -13.04%, and then again in 2002 by -23.37%. That is a total of 46.55% drop in values in three years. If you took the average gain per year for just those three years it was negative, at -15.5% each year! So what does that mean to you? Well, if you’ve got a lot of time to make up those losses, then maybe not too much. But it would take eight years at an 8% gain just to get back to where you were three years earlier. If you don’t have 40 years to make up these big dips in the market, then frankly you’re getting bamboozled.
This is a lot of math, but my point is that most people don’t know how to calculate the math. They just look at a report showing a 40-year average and say, “Not bad.” Not bad if you have lots of time, but what if you’re getting within 10 years of retirement?
Indexed annuities can be a great way to overcome market dips. When you invest in indexed annuities, you get only the gains and no downs — you are “sharing” the ups but not having to experience the downs. Don’t know what an indexed annuity is? Contact me for more info: email@example.com.
Do not confuse indexed annuities with variable annuities. Variable means you are in the market and must therefore be subject to the full ups and downs. Even if you placed your money in a strong New York Life variable annuity, remember, your money is in the market, not invested in New York Life, so it is subject to market ups and downs. Many people have made the mistake of assuming they were safe because of the financial strength of New York Life. But in my experience variable annuities can experience drops in value and then you still can’t get your money out during a bad drop because annuities aren’t all that liquid.
Now indexed annuities are even less liquid than variable annuities, so there is some disadvantage there. They may not work for you because they are not liquid enough for your needs. But indexed annuities are guaranteed not to lose money and to share in the increases of the market. And that’s a good thing. If you are close to retirement and want a safe rate of return, and no downside risk in the market, these are great tools to use.
As a final note, there is one way to overcome to some degree the liquidity problem with indexed annuities and that’s by “laddering” them. You have probably heard about laddering CD’s and it works the same for indexed annuities. For example with a CD, let’s say you had $100,000 and wanted a good 5-year rate of interest on your safe money. You could split up the $100,000 into five $20,000 CDs. Schedule each CD to mature one year apart, so $20,000 for a one-year CD until it matures, then place the next $20,000 in a CD that matures in two years, and so forth. Then in one year, the first CD matures, which if you need the money, you take it. But if not, it rolls over into a 5-year CD. In this manner, you have $20,000 maturing each year and in five years you will have a five-year CD providing a top rate of return. To get the same impact for indexed annuities, you can “ladder” these annuities and provide better liquidity while getting the best possible rate of return.
Contact me for more information on better ways to fund retirement than just dumping money into a 401(k) and hoping for the best: firstname.lastname@example.org.