The lure of the stock market, when it comes to retirement, is the larger potential return it offers compared to other types of investments. Unfortunately, that potential big upside comes with the risk of big losses that could damage a retirement portfolio–like we saw in 2008.
Let’s face it, the stock market is always volatile–it goes up, and it goes down. You need a solid two-sided retirement strategy that both uses the market’s growth and helps protect you from its inevitable downside.
Income from Principal-Guaranteed Accounts
We have a two-fold mission: 1) to track with the S&P when the markets go up, and 2) to protect principal when the markets go down. This is by far the most important part of risk planning we do.
We want to make our clients aware of the fact that if you don’t draw income properly from principal-guaranteed sources, you greatly compromise the ability of your retirement plan to generate income for the rest of your life.
Interest Rate Risk
When interest rates are at, or near, all-time record lows, bond and bond funds earn almost nothing. But worst of all, when interest rates eventually do go up, bond rates will actually go down. For example, in 1994, the ten-year Treasury went up from six to eight percent in one year, and as a result, the average bond fund lost about twenty percent according to Morningstar.
Despite these facts, the debunked banker-broker model still advocates “The Rule of 100,” which refers to the theory that if you’re 65 years old, you should have 65 percent of your money in bonds or bond funds, and continue to raise the percentage allocated to them by your age as you get older. Yet by putting larger and larger percentages into bonds and bond funds—with yields at or near all-time record lows—you could have the majority of your money earning almost nothing in retirement!
Interest rates are at or near record lows right now, and interest-rate risk is at or near record highs right now. Your bond funds, therefore, have never been more at risk than they are right now. And for bankers and brokers to tell you that that’s where you should put your ‘safe money’ is irresponsible, to put it mildly.
An independent, licensed fiduciary, like Decker Retirement Planning, Inc., is legally bound to do what is in a client’s best interest. This is different than bankers and brokers, who are only held to general “suitability” standards, and sell a limited number of investment products related to who they work for.
Retirement requires a custom, well calculated plan, not just the withdrawal of four percent out of your equity accounts every year (a strategy debunked by its originator after 2008). A good retirement plan should have an income plan, as well as a distribution plan. A firm like Decker Retirement Planning, Inc., runs the numbers all the way through age 100, setting aside emergency cash, and adding a three percent COLA (Cost of Living Adjustment) factor yearly for inflation. We mathematically calculate how much money you could draw, net of tax, on an annual and monthly income basis for the rest of your life in retirement.
Principal-Guaranteed Account Options
Our strategy is to dedicate a certain percentage of every retiree’s portfolio to be used for income, which is where the principal-guaranteed account options come into play. As fiduciaries, we believe this is the most important part of a retirement plan—it’s what we call the “safe” money portion.
We optimize the retirement income options in three ways. Number one, the accounts need to be principal guaranteed. Number two, we need to maximize the rate that we’re getting. And number three, they need to be able to generate monthly income.
When it comes to principal-guaranteed accounts, there are basically ten options, the first six of which are fixed-rate investment options offering a fixed rate of return over a fixed period of time:
2 Municipal bonds
3 Corporate bonds
4 Government agency bonds
5 Government treasury bonds
6 Fixed annuities
7 Income annuities, life annuities and income riders
8 Equity indexed accounts
9 Equity-linked CDs
10 Indexed universal life (IUL) policies
While we can’t say which principal-guaranteed account options we recommend until we create a custom retirement plan for you—it is our job as fiduciaries to analyze, run fee and rate comparisons and inform our clients.
The Integrity of the Guarantee
There are different types of guarantees when it comes to principal-guaranteed accounts. There is a Corporate Guarantee, specific to municipal bonds where corporations like Ambac, FGIC, MGIC, will step in and guarantee a municipal bond offering.
There is an Assumed Guarantee, having to do with FDIC backing of certificates of deposit, or CDs, at banks.
And there is a Reserve Guarantee, which has three parts. Part one is that the bank or insurance company puts five percent on top of any funds deposited with them into a completely separate account as a reserve. The second part of the Reserve Guarantee is at the state level. They get a piece of all the transactions and build up a safety fund that, like the FDIC, reserves up to $250,000 in principal. So, if your principal was compromised in any way, you have a backup guarantee with the safety fund at the state level. The third and final part of the Reserve Guarantee is that all the banks and insurance companies that operate with these types of investment have to cross-insure each other.
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