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Investing/Strategies / Retirement Investing
|Subject: Re: Retirement, college, and Obamanomics||Date: 1/1/2013 10:39 PM|
|Author: KluverBucy||Number: 71183 of 81365|
First, thank you for posting some useful numbers about the range of S&P returns. I will accept you "fuzzy handwaving math" and agree with your rough estimate that: "33% of the time the excess gain was 11% and 28% of the time the avoided loss was 14%, so using handwaving fuzzy math that's pretty close to a wash." This is pretty much what I assumed but it nice to see the actual numbers.
However,your statement - "SOMEBODY took the loss when the market lost, and if it wasn't you then it was the IUL company. Likewise, SOMEBODY got the excess gain, and if it wasn't you then it was the IUL company." - is still an inacurate description of the situation. As I explained in my first post, the gains are all made by purchasing options. If a call option expires worthless in a market that dropped 14%, neither the IUL owner nor the company loses 14%. The only loss is the cost of the option; and the funds to purchase that option were generated by fixed income securities. Likewise neither the policy owner nor the company got any excess gain. When the original "at the money" call option was purchased, a second "out of the money" call option was sold - creating a classic bull spread and capping the max gain on the trade. If the market soars 30%, the excess gain above 15% is captured by the purchaser of the "out of the money" call - which is neither the policy holder nor the company.
Next you state "the total return of the S&P500 is not just the price. It also throws off dividends, about 2.6% a year average." That is totally correct, and when taken with your previous data, would imply that simply buying an S&P index and collecting the dividends would beat a 0% floor/15% cap IUL strategy. However, you go off into the weeds again with the comment "The market paid a dividend and SOMEBODY received it, and if it wasn't you then it was the IUL company". The company never bought the index (only the call option), therefore they did not receive any dividends. That actual owners of the stock, whoever they be (but in our case clearly not the policy holder or the company), received the dividends.
The real question I have is: do the insurance companies truly use all of the alvailable funds generated by the fixed income securities to create these call spreads or are they skimming some of the income off the top? For example, if you have a $100,000 in your policy and their bond portfolio generates an average return of 5%, they should take that $5,000 to create the best option spread with the highest possible cap. But maybe they are only using $4000 to buy the options and keeping $1000 for themselves. In my mind, that is a valid concern and as a consumer I have no way to find that out.
Now you have provided some nice data to suggest that simply buying an index, taking all of its gains and loses, and collecting the dividends provides superior returns to this IUL option strategy - this is most likely correct. The one caveat is the potential tax implications. Within the IUL, gains and distributions(loans) are tax free - not so with most other types of accounts(roth IRA being an exception). What is better an 8% tax free gain or a 10.5% gain being taxed as a combination of capital gains and dividends? That can only be answered using very specific individual data.
Again, I believe IULs to be a very complicated financial instrument that is not suitable for most investors. They might be appropriate for the high net worth/high income tax bracket investor that wants easy access to all of the funds at any time. Like most financial and insurance products that are sold on commision, the worst offenses are probably rleated selling them to people that have no business buying them. But nothing I have researched or read on the topic has led me to believe that these products are simply "snake oil" or a scam.
As I originally said, I have no dog in this fight - I neither sell these products nor do I own them. I do believe however that, at a website dedicated to financial education, such products should be discussed honestly and understood to the best of our abilities.
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