Annuities: Maximizing retirement income in 2023 and beyond

As financial advisors look toward the second half of the year and beyond, they seek differentiated investment strategies that can provide all-weather protection and income in an unpredictable rate environment.

Recent stock market volatility, inflation and rising interest rates also have financial advisors acting on a renewed demand for savings options that have a greater level of stability and risk mitigation. More and more, they are reevaluating the traditional 60/40 portfolio mix. With diversification top of mind, there are other, often overlooked, “alternatives” to help clients as they seek to maximize retirement income while maintaining principal protection.

Looking back at 2022

Given the impact of a challenging interest rate environment not seen in decades, the U.S. had severe declines across stock sectors and major bond/credit indices over the course of 2022. Most notably, the Bloomberg U.S. Investment Grade Long Credit Index declined by roughly 25% last year—more than the roughly 19% loss that the S&P 500 Index experienced.

Financial advisors must continually reevaluate their options when it comes to diversifying the fixed income 40% portion of traditional 60/40 portfolios. Some increasingly popular alternatives include fixed annuities, also known as multi-year guaranteed annuities and fixed indexed annuities.

Fixed and fixed index annuity offerings provide a buffer against market losses that other fixed income vehicles may suffer – such as bonds. Among the advantages:

• MYGAs have a fixed interest rate and are designed to be held for a certain time period - usually three, five or seven years - and may offer higher interest rates than other savings options. This is especially true given the current rate environment. Holding them for the entire guarantee period is a safe way to save, even safer than bond funds, which can fall in price when interest rates go up, as happened in 2022. They also guarantee principal and accumulate on a tax-deferred basis.

• FIAs and bonds are both interest-earning, and principal-protected instruments. Bond returns however depend on yields, while FIA credited interest can be driven by a wide range of return sources — including equity and dynamic multi-asset strategies — and underlying accounts can be diversified across several indexes depending on market conditions. Like MYGAs, FIAsguarantee principal and accumulate on a tax-deferred basis. Many FIAs provide enhanced lifetime income through optional contract riders. They typically offer guaranteed income payments for the life of the contract owner and spouse (if selected), without requiring them to annuitize the contract. These types of payments can be an important feature for a client’s retirement plan.

Looking toward 2024

The International Monetary Fund projects that interest rates with eventually return to pre-pandemic levels, and markets expect inflation will continue to slow through the coming months into 2024. However, as we just witnessed with the Federal Reserve deciding to increase rates yet again in July, it could be some time before rates move downward in any material way.

Despite the positive trends in inflation, LIMRA found that more than half (56%) of pre-retirees do not feel their forecasted guaranteed retirement income streams (Social Security, pension income/guaranteed annuity income) will cover their basic living expenses in retirement.

To combat this, advisors should seek to increase educational efforts with clients to improve their understanding of how annuities work, and how they help de-risk portfolios by providing all-weather protection and tax-deferred interest. The ability to maximize client retirement income starts in the accumulation phase. These often-overlooked alternatives like fixed and fixed index annuities may be viable options for re-tooling 60/40 portfolios to deliver greater stability, to lock in today’s higher rates, and to provide accumulation potential that is free from stock and bond market risk.

Doug Wolff is CEO of Security Benefit. He may be contacted at [email protected].

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