Selling "Safe" Money

Selling "Safe" Money

January 31, 2023

Most everyone desires some level of safety in their lives. That safety looks different from person to person but usually it involves safety from physical harm, food and shelter, and financial security. That last example is especially poignant now coming off a year of rapid inflation, rising interest rates, and historically bad stock market performance. I think that it is safe to say that all of us have grappled with this idea of financial security at some point in our lives maybe even especially so in the last few years.

As universal as this concern is, the exact problems and solutions to them are often varied and specific to each individual. What is considered “safe” for one may be incredibly risky for another. These variations on the concern of financial security often depend on the age group that you are speaking to. For example, when a young person is talking about financial security, they are often concerned with paying off student loans and buying a house while still finding a way to put away money for retirement. On the flip side, those who are close to retirement are likely concerned with having enough money to live on once they retire and are on a fixed income. In both examples, the individuals are concerned with paying the bills and supporting their families however, the situations could not be more different.

This is why the term “safe money” is such a pernicious one. It is likely that you have at least heard this term in passing and wondered what it meant. Intrigued perhaps, as to how you too can keep your money “safe”. In the West Michigan community that I call home, we have seen a heavy uptick in the number of advertisements for “safe money” these last few years. We are bombarded by TV ads, radio programs, and billboards that invite us to reach out to learn more about this secret knowledge that will keep your money safe from harm (often over a free steak dinner). As a brief aside, is it any wonder that this is the marketing strategy of some given what we have experienced these last few years with COVID, political unrest, and economic upheaval? In a world clamoring for an antidote to chaos, it just makes good business sense to sell safety!

The irony of this is that behind all of the supposed brilliance of these “safe money” strategies are financial products that are no more brilliant or novel than any other financial product. Not to mention that they have their own unique risks and pitfalls that put their claim to “safety” in serious jeopardy. It is important to say here that these financial products are not in and of themselves “bad” or “unsafe”. They can and often do provide a level of risk mitigation that you cannot get from other types of investments or financial products (although that is starting to change). However, as I previously stated, the terms “safety” and “risk” can mean very different things to different people. Which is why I have such a problem with calling these products “safe money”. If you don’t define what financial safety means for an individual, you have no business making blanket statements about a financial product’s level of safety. You have to know your client before making recommendations, this is financial planning 101. However, as we will see further on, those who are advertising for this strategy the most aggressively are often not playing by the same set of rules.

By now you are probably wondering what this mystery financial product is and why there are those so aggressively pushing it to the public. I would like to use a future blog post to take a deep dive on what these products are and what makes them tic. However, for now I will supply you with a brief definition that should suffice for you to understand the underlying issues. The products most commonly referred to using the moniker “safe money” are called Indexed Annuities. If you have been following this blog for any length of time, you have probably heard us talk about the pros and cons of annuities (such as this post here or here). Annuities themselves are actually not investments at all but rather insurance contracts. Originally, they were contracts that provided the insured with guaranteed income in retirement. More recently, annuities have been seen as a potential replacement to pension plans as those have begun to fall by the wayside. Over time, annuities have gotten more complicated specifically with the invention of the Variable Annuity which is considered both an investment as well as an insurance product.  This gave annuities the ability to invest the insured’s funds while also providing them with an income stream in retirement.

Indexed annuities are unique from other types of annuities in a couple of different ways. First of all, they provide an individual with the ability to receive some of the returns of the market while also having a floor on how much they can lose. Secondly, despite the fact that their returns are pegged to a specific market index (such as the S&P 500) they are still considered insurance products and are regulated as such. Well, that doesn’t sound so bad right? I mean, who wouldn’t want to get the positive return from the market while limiting or eliminating the risk of negative returns? Sounds like a slam dunk! Except, that is not the whole story.

Index annuities usually make you pay for downside protection in one of two ways and often both. First, you are usually capped on how much of the market returns you actually receive. For example, if the market returns 10% in a given year, you might only get 6%. Secondly, like any other annuity, index annuities have what is called a surrender charge. This means that if you decided to back out of your annuity contract early, you will be subject to an additional charge to withdraw your money. A typical surrender charge period for a product like this is 6-10 (sometimes even 12) years. This means that you are locked in to the annuity for the entire surrender charge period unless you are desperate enough to pay the surrender charge penalty to get your money out.

I mentioned that index annuities are considered insurance products but what is the implication of that distinction? Well, in order to sell an index annuity, you are only required to have a life insurance license for the state in which you are doing business. Investments or variable annuities on the other hand require securities licenses in addition to insurance licenses. Securities licenses are necessary in order to sell products such as mutual funds or offer financial advice for a fee. By having a securities license (or several of them in my case) you are also subject to regulatory oversight from such entities as the Securities and Exchange Commission (SEC) and the Financial Industry Regulatory Authority (FINRA). These entities are extremely strict on what a licensed individual can say about financial products such as annuities as well as how they are allowed to market them. For example, as a securities licensed advisor I have to be very careful not to outrightly advise my clients to rollover money from an old 401(k) plan and I certainly cannot advertise rollovers as a marketing tool. For example, there is no way on earth that I could put billboards all over town advertising “IRA/401K Rollovers”. Those rules do not apply to someone who is only licensed by the state to sell insurance. Likewise, someone who is only insurance licensed is also not bound by the same rules of conduct when it comes to doing what is in the best interest of the client. Simply put, the standard is much different and many of those marketing “safe money” around town are playing by those lessor rules.  

To get back to my earlier point, what an index annuity sells is safety in the form of downside protection. For some people, this protection is worth having their money tied up for 6-10 years+. For others, this is a raw deal. For example, we often utilize a similar product (although it is categorized as a variable annuity, thus more regulative oversight) for clients who are entering the final 10 years until retirement. It continues to provide them with investment-like returns on their money while also saving them from the vicious swings of the market at a crucial moment for them. On the flip side, consider the young person that I mentioned earlier or perhaps imagine someone in the 30s or 40s. For those individuals, flexibility could be very important and thus an annuity with a long surrender charge could present some problems. Additionally, a cap on their returns for 6-10 years could seriously stunt the growth of their investment accounts. Likewise, consider an individual who has already retired but has a sudden need for income. If they are still in the surrender charge period, withdrawing money to cover their expenses could get pretty expensive. 

The last thing that I will mention is the incentive that individuals have to sell these types of products. Most often, the salesperson who sells an index annuity receives an up-front sales commission sometimes as much as 7% of the contract’s value (ex if the client pays in $200,000 the insurance agent receives $14,000). That said, it is only a one-time commission which means if the agent wants to make more money, they need to sell more product. If they sell a lot of annuities this can be quite lucrative but I trust you can see the problem with that way of doing business.

The bottom line is this, there is absolutely no such thing as an investment strategy that is “safe” for everyone. There is no such thing as “safe money” period. I am reminded of the phrase, “There is no such thing as a free lunch.” Everything has a cost whether it be time, money, opportunity, potential investment gains, etc. So, it is here that I will make my pitch for true, authentic financial planning. At Provisio Retirement Partners we don’t believe in preying on someone’s fears in order to sell a product and we certainly don’t believe that there is one solution that is right for everyone! If you have questions about this complicated issue or recently found yourself attending a free steak dinner, please reach out to us. We would be happy to walk you through the pros and cons and figure out the best solution for you.

Thanks again for reading the blog! I apologize for the length of today’s installment but as you can probably see this is a topic that our team is passionate about. See you next week!

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. Fixed and Variable annuities are suitable for long-term investing, such as retirement investing. Gains from tax-deferred investments are taxable as ordinary income upon withdrawal. Guarantees are based on the claims paying ability of the issuing company. Withdrawals made prior to age 59 ½ are subject to a 10% penalty tax and surrender charges may apply. Variable annuities are subject to market risk and may lose value. Fixed Indexed Annuities (FIA) are not suitable for all investors. FIAs permit investors to participate in only a stated percentage of an increase in an index (participation rate) and may impose a maximum annual account value percentage increase. FIAs typically do not allow for participation in dividends accumulated on the securities represented by the index. Annuities are long-term, tax-deferred investment vehicles designed for retirement purposes. Withdrawals prior to age 59 ½ may result in an IRS penalty and surrender charges may apply. Guarantees are based on the claims paying ability of the issuing insurance company.