Ibbotson: Why Advisors Should Consider FIAs

Advisors should give fixed indexed annuities (FIAs) a serious look because FIAs offer a compelling story in an era of low bond yields, according to Roger G. Ibbotson, one of the most recognizable names in finance.

Ibbotson, emeritus professor of finance at the Yale School of Management, knows a thing or two about historical stock and bond returns. Bond yields aren’t very attractive now, even if investors have done well by them over the past 35 years.

“But now we have to look forward,” he said. “We’re only getting a 3 percent yield from bonds, but we are more likely to get a capital loss now that rates are rising and the value of bonds is dropping.”

Where to turn for alternatives? Fixed indexed annuities.

“In many scenarios, indexed annuities are likely to outperform bonds in the future, even after costs are deducted,” said Ibbotson, who recently released a paper titled “Fixed Indexed Annuities: Consider the Alternative.”

Gaining exposure to equity-like returns through an insurance product may be an attractive alternative, particularly if stocks are expected to perform better than bonds with lower prospects for capital gain appreciation.

FIAs, therefore, deserve a place in retirement portfolios. Advisors should think about FIAs as an asset class in portfolio construction.

Asset Allocation a Useful Lens for Advisors

“I don’t know how financial advisors have looked at FIAs in the past, but I look at them in an asset allocation context,” said Ibbotson, chairman and CEO of the investment fund Zebra Capital Management.

FIAs are special because advisors can tailor them to some degree, unlike many other fixed annuities which are more rigid and rapidly becoming commoditized.

Advisors concerned about clients taking losses in retirement can offset that with FIAs, which provide principal protection that people find valuable.

That’s a big advantage, he said.

FIAs do have some downsides.

Drawbacks include potentially burdensome cost structures, added complexity the more advisors tailor FIAs to fit individual client portfolios invested in other asset classes and the potential penalties levied in exchange for liquidity, he said.

Then again, FIAs aren’t designed to be a short-term proposition.

“People should consider FIAs as long-term investments,” he said.

FIA Scenario Analysis

As clients age, the conventional wisdom is to shift out of stocks and into bonds as part of a derisking strategy since the older clients become, the less time they have in front of them to make up for steep losses.

Though much of this wisdom still holds, it may not hold quite so solidly during a period when interest rates remain very low.

With interest rates likely to rise in the near future, Ibbotson and his researchers considered four interest rate environments.

One rate environment remained unchanged, another saw rates rise by 1 percent, a third allowed rates to rise by 2 percent and then by 3 percent, all over a three-year period.

Four equity environments were also applied to the model, with equities falling by 10 percent, remaining level, rising by 10 percent and rising by 20 percent.

In almost every listed scenario, the 60/40 stock and FIA combination performed better than the 60/40 stock and bond combination, he said.

InsuranceNewsNet Senior Writer Cyril Tuohy has covered the financial services industry for more than 15 years. Cyril may be reached at [email protected].
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Cyril Tuohy is a writer based in Pennsylvania. He has covered the financial services industry for more than 15 years. He can be reached at [email protected].