Why Annuities are the “Wizard of Oz” of Investments

In these times of low-interest rates, many investors are tempted by purported “guaranteed” rates of return offered on some annuity products.  As annuities can be the “Wizard of Oz” of investments—“Look at these features over here” and “pay no attention to the man behind the curtain”—caution is warranted, particularly if the person recommending that you purchase the annuity receives a commission for getting you to buy it!

A life’s savings at risk

A couple in their 80s recently came in with just such an annuity, in which they had invested about $120,000, nearly their entire life’s savings.  They bought this annuity because the salesperson told them they could invest it in the stock market, and that each year they could lock in the value of the annuity at the greater of 6% more than last year’s value or the combined value of all of the investments in their portfolio.  What a great deal!  Potential for returns equivalent to the stock market with a minimum guaranteed rate of 6% per year.  Who wouldn’t do THAT today?

The couple selected stock mutual funds as investments inside the annuity.  Normally, such an aggressive allocation would be ill-advised for an elderly couple investing nearly all of their money, but with the 6% minimum guarantee, how could they go wrong?

The truth revealed

At the time this couple came in, their original $120,000 investment amount had “grown” to $160,000 based upon the 6% guaranteed rate. But the actual value of their investment had dropped to $90,000 due to poor market returns compounded by the high fees associated with mutual fund investments inside the annuity product. Despite the aggressive profile of their investments and the fact that their results were unlikely to improve due to the high fees in their investment products, the couple was persuaded by their salesperson—who undoubtedly was still receiving trailer commissions—not to make a change.  His rationale was that by liquidating their investment at its current value of $90,000 to stop the losses, they would be “losing” the $70,000 difference between what they would get in cash and their “guaranteed” value.

What was “behind the curtain” in this case and hidden from view in order to keep the focus on the purported benefits of this arrangement was exactly what the couple had to do to reap the benefit of the $160,000 value they had “accumulated.” The option to receive this value was for the husband/annuitant to elect to receive a stream of payments that would terminate at his death.  According to the payout schedule specified in the contract, he had to live until 95 in order to get enough out of the contract to recover its current $90,000 actual value.  If he died sooner he wouldn’t even get today’s value out of the contract.  To recover the full reported $160,000 value, he would have to live to be more than 100 years of age.  Any other option he might select to receive the value of his annuity would give him the actual value of the contract: $90,000 today, modified going forward by stock market returns reduced by excessive investment fees.

Get unbiased advice

There are many financial “advisors” in the marketplace.  Unfortunately, most of them give advice designed to get you to buy what they have to sell.  If you are being urged to buy an annuity from such an advisor, get a second opinion.  Consider getting that opinion from a fiduciary advisor, a member of the rare subset of financial advisors who don’t sell any products and who try to help clients think through investments such as an annuity from all angles and from an objective perspective.

If you are interested in receiving a second opinion about your investments, please contact us. We would be happy to help you.

Tom Batterman, JD, CTFA

Principal, Financial Fiduciaries


About Objectively Speaking

Tom Batterman, founder of Vigil Trust & Financial Advocacy and Financial Fiduciaries, LLC is in the business of representing the best financial interests of his clients. Having provided objective, fee-only financial management services for over two decades, he specializes in managing the investment and related financial affairs of individuals and mutual insurance companies who do not have the time, interest or expertise to manage such matters on their own. As an objective, unbiased professional who takes on a fiduciary responsibility to his clients, he guides clients to the financial decisions they would make themselves if they had years of training and experience and the time and expertise to fully research and understand all of their options. Founded in 2010 as an outgrowth of Vigil Trust & Financial Advocacy, Financial Fiduciaries, LLC is a financial management solution for individuals and mutual insurance companies who recognize they do not have the time, interest or expertise to properly attend to their financial matters on their own. While there are many financial “advisors”, most of them have investment products to sell and the “advice” they provide is geared toward getting their clients to engage in a purchase. As one of the rare subset of advisors known as “fiduciary advisors”, Financial Fiduciaries does not sell any investment product so its guidance is not compromised by conflicts of interest which plague ordinary advisors. Prior to his employment in the financial industry in financial advocacy and trust positions, he worked at a private law practice in the Wausau area in the areas of estate planning, tax, retirement planning, corporate organizations and real estate. He is a graduate of the University of Wisconsin-Madison and the UW-Madison Law School and has during his career held Series 7, 24 and 65 securities licenses. A longtime resident of the Wausau, Wisconsin Area, Tom is active in the community. He enjoys golf, curling, skiing, fishing, traveling and spending time with his family.
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