Stock markets are one of the most sought-after investment avenues preferred by investors who wish to make a fortune, both within a day and over a longer period of time. But the stock market is also the riskiest asset class that an investor can wish for, stock markets usually crash when there are high inflationary pressures, a recession is imminent in the economy, or something like COVID-19 is affecting the business and the real economy.
These fears open up doors for alternate investment avenues such as the bonds market, money market, government treasuries, forex, commodities, crypto, and annuities. These alternative investment avenues enable investors to earn a good amount of money and protect their portfolios, even during recession times or during a stock market crash.
Although annuities are not a common investment class among the masses, many investors use annuities as a way to earn steady, stable, and regular interest payments that are paid periodically to the investors, this also serves sometimes as a hedge against stock market crashes.
Does the Stock Market Affect Annuities?
Though, annuities serve as a great alternative income stream that generates stable and regular earnings in the form of interest payments; people are still afraid of losing their hard-earned money during a recession and stock market crashes, which brings just one question to their minds when considering annuities that just like every other asset class, are annuities affected by the stock market?
Without a doubt, this is a genuine question and worry of the investors as they are seeking the safest alternative investment avenues that can protect their wealth during the harsh times, and though its answer can be difficult to find, you don’t have to worry because we have discussed every type of annuity that can or cannot be affected by the stock market which will clear all your doubts and will help you to take better and well-informed investment decisions.
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Which types of annuities are affected by the stock market?
Both annuities and the stock market are huge topics that have plenty of knowledge and aspects to consider, but the main question that we are going to cover in this post is, are annuities affected by the stock market? And if stock markets can influence annuities, then what types of annuities are affected or protected from the influence of the stock market?
In reality, there are a number of annuities, some are affected by the stock market and some are not. That’s why we will be going through each and every type of annuity out there like single premium, deferred income annuities, immediate annuities, multi-year guarantee annuities, QLACs, variable annuities, and index annuities.
Basically, all of the annuities that were mentioned earlier can be categorized into two broad and primary categories of annuities; fixed and variable annuities.
Fixed Annuities
A prominent characteristic of a fixed annuity is that the rate of interest you earn is guaranteed during the interest accumulation phase. In this respect, a fixed annuity is much closer to a certificate of deposit than to the stock market or a mutual fund for that matter.
As a matter of fact, fixed annuities are not regulated and classified by the Securities and Exchange Commission (SEC), due to their fixed and predetermined rate of return, and thus a person who sells them is not liable to maintain a license of series 7 or series 63. On the contrary, life insurance agents, who are barred from selling the securities are allowed to sell fixed annuities and they love to do so because the commissions can be considerably higher.
Variable Annuities
On the other hand, a variable annuity, as its name suggests, is a type of annuity whose rate of return is not certain and varies based on the investment tool to which it is tied. Most of the variable annuities are invested in sub-accounts, that act similar to the mutual funds, which are bundles of bonds, stocks, and money market instruments.
Because these investment tools, particularly stocks and equities fluctuate based on economic situation and market sentiments, variable annuities can expose you to the risks during a recession, which also proves that due to its investments in the sub-accounts, it will also expose you to market risks.
If all goes well, a variable annuity in its accumulation phase can give you higher returns which will increase your balance and your portfolio. However, during a recession, your portfolio will go into the red zone if the investment tool to which it is tied is reduced in value. While a fixed annuity covers you from this risk, it also doesn’t assure you a higher return during the good times.
MYGAs
Multi-year guarantee annuities (MYGA), also famously known as the fixed-rate or CD version of the annuity industry, is a type of fixed annuity that has nothing to do with the volatility in the stock market. In actuality, it provides you with a predetermined and guaranteed rate of return for a specified time period, mostly for 3 – 10 years duration which is why it is often compared with CDs.
Multi-year guaranteed annuities are among the least risky annuities out there and that’s why they become a great option for retirement and long-term saving plans as you know the exact amount the annuity is going to yield and what time, furthermore, they protect you from this risks of the stock market.
Immediate Annuity
An immediate annuity is a type of annuity in which there is a contract between the owner of the annuity and the insurance company that the owner will receive a guaranteed income almost immediately. It depends on the owner’s age, the time duration of the payments (for how long they will continue), and the prevalent market interest rates. Another advantage of the immediate annuity is that it is not affected by the stock market volatilities and helps you keep your investment safe and protected.
Deferred Annuity
A deferred annuity is a contract with an insurance company that guarantees to pay a lump sum, or regular amount, whichever is opted, at some point of time in the future to the owner. Investors often use deferred annuities to add on their other retirement income streams, like social security; and as the name suggests pay the amount after a certain period of time and do not pay immediately, as with an immediate annuity.
Qualified Longevity Annuity Contracts (QLAC)
A qualified longevity annuity contract, as the name suggests is a long-term annuity that can be used by pensioners and people retiring from their jobs as a way to generate a stable and safe income stream that’s quite predictable too. A QLAC is a type of deferred annuity, which can be funded by transferring the money from a qualified retirement plan or an individual retirement account (IRA), for example, a 401K.
It provides consistent monthly payments until the death of the owner at predetermined rates which also helps to secure the money and provide protection from economic downturn and market crashes. People can now transfer up to $200,000 of their retirement savings account IRA into QLAC with the introduction of the Secure 2.0 Act of 2022. An added advantage of the QLAC is that it isn’t subject to the required minimum distribution (RMD) rules recently set up by the IRS, which mandates IRA withdrawals after the age of 73.
Congrats! You Have Enough Knowledge about Annuities
Although no financial instrument is risk-free and all of them are subject to market and economic risks, there are numerous options available in the form of annuities that can protect your investment to a great extent and guarantee you a stable and regular income stream which is usually beneficial for retired people, pensioners and people who have low risk profile.
We also concluded in our discussion above that most of the annuities are not affected by the stock market and are safe to a great extent from the stock market crash.
FAQs – Are Annuities Affected By the Stock Market?
The stock market can affect annuities in different ways, depending on the type of annuity. Fixed annuities, which pay a fixed rate of interest and income, are not directly affected by the stock market, but they may be influenced by the general level of interest rates, which can change with market conditions. Variable annuities, which invest in mutual funds and pay income based on the performance of those funds, are directly affected by the stock market, as their value and income can fluctuate with the market returns. Indexed annuities, which pay income based on the performance of a market index, such as the S&P 500, are also affected by the stock market, but they usually have some protection from market losses, such as a minimum guaranteed return or a buffer against losses.
As explained above, some annuities do fluctuate with the market, while others do not. Variable annuities and indexed annuities can fluctuate with the market, but they may have different degrees of risk and reward. Variable annuities can have higher potential returns, but also higher potential losses, than indexed annuities. Indexed annuities can have lower potential returns, but also lower potential losses, than variable annuities.
Investors should understand annuities because they can be a useful tool for retirement planning and income generation. Annuities can provide a steady and guaranteed income stream for life or a certain period, which can help investors cover their essential expenses and reduce the risk of outliving their savings. Annuities can also offer tax advantages, as the earnings grow tax-deferred until the income payments begin. However, annuities also have some drawbacks, such as fees, penalties, loss of principal, credit risk, and inflation risk. Investors should weigh the pros and cons of annuities and compare them with other retirement income options before buying them.
