Fixing your sights on the future

While shopping for a book-value fixed annuity is a straightforward exercise, Freiburger says, there are several factors to consider in comparing products. One is contract length. In the current low interest rate environment, he favors contracts with a short duration -typically three years. The more highly rated the carrier, the better, he adds. "I don't venture too far from the most highly rated insurance companies." As for returns, Freiburger says rates in the 4-5 percent range are adequate in today's environment, though clearly not compelling enough to lock in for the long term, given the strong likelihood interest rates will normalize.

Investors who want a chance at higher returns than those promised by traditional fixed annuities and who are willing to assume more risk in order to get it may be strong candidates for an indexed annuity, contends Stumpf. While indexed annuities aren't for everyone, they work well in some senior portfolios, as an alternative to bonds, CDs and the like, Freiburger says. "For a piece of some portfolios, they fit very well."

Because indexed products offer a minimum guaranteed interest rate that is linked to a market index, investors get the security of a floor underneath their investment, plus the higher ceiling that comes via linkage to the equities market. They're designed for clients who want the best of both worlds, Stumpf says. "It gives them the potential for higher returns than those of fixed instruments, without being directly invested in the stock market. A client who is afraid of putting money in stocks might be comfortable putting it in an indexed annuity instead of just parking it in a CD."

Like traditional fixed contracts, indexed products offer tax-deferred growth, in addition to probate and creditor protection. Those features, plus greater upside potential, were what recently prompted a client of Stumpf's to move $150,000 from a bank CD earning 3.8 percent into an indexed annuity offering a guaranteed minimum rate of 3 percent. "I sold it as a CD alternative," he explains. "I showed the client that she's going to get returns somewhere between 3 percent and 7 or 8 percent with this product."

Evaluating indexed annuities is not an exercise to take lightly, cautions Stumpf. As an advisor, "you must understand the product," no easy task given the highly nuanced distinctions between one carrier's contract and another's.

The potentially confusing nature of fixed index products is enough to keep Frances Twiddy, CFP, from using them. "There's a perceived degree of difficulty and a lack of transparency that kind of warns you off the product," says Twiddy, who runs an advisory practice in St. Clair Shores, Mich.

While acknowledging that fixed indexed products can be confusing, Stumpf and Freiburger say they've been able to identify products with the right combination of traits and track record. In general Freiburger says he prefers contracts underwritten by top-rated carriers that have as few moving parts as possible and whose contract terms are stable and predictable. He avoids using contracts that offer excessively high commissions, because those tend to be the ones with the least favorable terms for clients. Factors such as surrender period, surrender charge percentage and participation rate weigh heaviest in Stumpf's evaluation of fixed index contracts. He looks for surrender periods in the 7-10 year range, surrender charge percentages in the neighborhood of 10 percent and participation rates of at least 50 percent. He also favors products with high historic renewal rates, which tend to indicate a higher level of customer satisfaction.

In the end, says Freiburger, the better the client understands a product, the more satisfied they tend to be with it. "My biggest concern with the indexed annuity is that clients understand what it is we're getting into. You have to spend time explaining it on the front end, then spend time with them on delivery and on an ongoing basis so they understand how it's working."

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