Why Annuities And Life Insurance Should Be On Your Client’s Bucket List

By Ted Jenkin

When I started in the business in 1991, one of the biggest fundamental teachings was the concept of asset allocation.

Asset allocation is all about the notion that different asset classes offer returns that are not perfectly correlated, hence diversification reduces the overall risk in terms of the variability of returns for a given level of expected return.

Today’s world of asset allocation uses these fancy pie charts that show clients cash, corporate bonds, international bonds, government bonds, large cap stock, mid cap stock, small cap stock, international stock, emerging markets, commodities, real estate and many other types of asset classes. The idea is that all of these asset classes are supposed to act and look much like magnets. Having a balance of these asset classes means that when some areas have worse years, other categories will have better years, and the overall risk will be minimized.

The world’s global economy is so intertwined that many asset classes are more closely tied together than before. Consequently, over the last couple of years, investors have been completely held hostage by whichever way the world markets performed. In fact, outside of municipal bonds and few select categories, investors would have performed better by either 1) having cash value in a whole life or universal life policy or 2) having an annuity product that guaranteed they could not lose money.

One-year returns are down

Look at this snapshot from Morningstar showing the one-year fiscal returns on asset categories across the board (as of Jan. 22):

Large cap blend                      -8.10 percent

Mid cap blend                         -12.16 percent

Small cap blend                      -12.68 percent

Tactical allocation                   -10.23 percent

World allocation                      -9.56 percent

World stock                             -9.29 percent

Emerging markets                  -23.56 percent

Long-term government bond  -2.22 percent

Short-term bond                      -0.14 percent

Real estate                              -9.35 percent

Precious metals                      -38.69 percent

Energy limited partnership      -41.67 percent

In the Morningstar one-year trailing numbers, the only category that fared well across the board was municipal bonds. Would you have been prepared to move all of your money into municipal bonds one year ago if your advisor told you this would be the best idea for your money?  I believe that we must change the way we think about asset allocation because the traditional world of asset allocation will not work the way it did in the past. This is because of the way that all facets of our global economy work so closely together these days. Here are my three buckets of asset allocation.

Security. The first area of your clients’ asset allocation is determined by how much money they need to keep in the security bucket. In the good old days, the secure bucket largely was determined by how much money your employer would provide you in a pension when you retired. As many of us realize today, employers hardly offer that type of benefit anymore. Consequently, clients need to put some of their money in products or vehicles that guarantee income down the road. These typically are done with insurance products and clients can achieve this security while still controlling the direction of their cash.

In our business, this means looking at products such as fixed index annuities or buffered index annuities that allow for the opportunity for upside growth while protecting the capital base of the investment.  More important, annuities that offer a protected income value or a guaranteed minimum withdrawal benefit allow investors to build a product as part of their asset allocation that would allow them to replicate a pension plan. Asset allocation models don’t discuss the word “pension” at all, but ask yourself, who are the clients you know who are the happiest in retirement?  Are they the clients who have the most amount of money or are they the clients who get the most consistent fixed income paycheck?  Clients who are close to retirement age are not the only clients who need to think about this. Clients who are in the 40- to 60-year-old age range should strongly consider adding the security bucket as part of their new asset allocation. This will ensure they will have some level of guaranteed future retirement income.

Income. The second area of your clients’ asset allocation will be determined by how much money they need to keep in the income bucket. There are various types of income-producing assets, some fixed and some variable. In the fixed income arena, those assets include preferred stock, business development corporations, municipal bonds, U.S. government bonds, corporate bonds, rental real estate and lending clubs. The one asset usually not mentioned with these asset classes is the self-standing asset class of life insurance. Not only has this asset class of life insurance been incredibly consistent and stable over the past 25 years, it also can augment or substitute the concept of having a Roth IRA by providing tax-free income down the road if the policy is structured and funded appropriately. This isn’t a be-all and end-all list, but it is a rundown investment classes that will kick off yield and have some potential for growth. There are many different alternatives in this category.

Growth. The third area of your clients’ asset allocation will be determined by how much money they need to keep in the growth bucket. The growth bucket is designed for ownership-type dollars. Specifically, this includes having money in assets such as stocks, precious metals, a primary residence and other categories where your clients are putting dollars at risk for the potential for larger future growth. These are long-term-hold investments. Growth investing can happen in all types of accounts including 401(k)s, IRAs, Roth IRAs and brokerage accounts. Within this category, you may need to become more active than in the past to look for the opportunities that are beaten up to earn significant upside return.

Will traditional asset allocation work?  Time will tell, but this is a different take on how to do asset allocation in the future.

Ted Jenkin, CFP, AWMA, CRPC, AAMS, CMFC, CRPS, is the co-CEO and founder of oXYGen Financial, a financial advisory firm in Alpharetta, Ga. He is a frequent guest columnist for The Wall Street Journal. Ted may be contacted at [email protected].

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