Conventional investing wisdom asserts that when we are young, we allocate heavily to stocks, and then as we approach retirement age, we reduce the risk in our portfolios by shifting a greater portion towards bonds. However, sometimes accepting conventional wisdom prevents us from considering other alternatives. As we begin to lower the risk in our portfolios, are bonds really the best option?
A 2017 study, by Roger G. Ibbotson PhD, Professor Emeritus of Finance, Yale School of Management, with Zebra Capital, Duff & Phelps, AnnGen Dev. LLC, and SBBI Yearbook, shows that uncapped Fixed Indexed Annuities (FIAs) can help reduce long-term risk, and will likely outperform bonds over time. In simulation, using dynamic participation rates and historical data, they demonstrated that a generic FIA using a large cap equity (stock) index has low bond-like risk, but upside returns tied to positive movements in the stock market.
If risk were not a consideration, we would put all our money in stocks. But the stock market is volatile, subject to cyber and world events beyond anyone’s control. And of course as we approach retirement, risk is a major consideration. Many people then pursue the strategy of allocating more-heavily to bonds, but this strategy may not meet return expectations.
An FIA is a contract that is issued and guaranteed by an insurance company. It offers tax-deferred retirement savings while eliminating the downside risk and allowing for the opportunity to participate in upside market returns. While the upside returns are not as strong as straight-up equity investing, the study demonstrated that including net of fees, FIAs outperformed bonds with better downside protection over the period 1927-2016.
If it’s time to start reducing risk in your portfolio, you don’t have to have to miss out entirely on market-based returns. At Penny Lane Financial, we’ll help you understand your investment options so you can make the most of your retirement savings.