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Author: Dwdonhoff Big gold star, 5000 posts Top Favorite Fools Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 76237  
Subject: Re: 7702 Private Plans (indexed universal life) Date: 3/31/2013 12:04 AM
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Hi Ray,

I don't know the sizes of the people you typically see. But if you have a $100K account and lose half, it doesn't matter. Neither 100K nor 50K is going to put you on easy street, or make a significant change in your life-style. (Or maybe it would -- perhaps I'm jaded.)
Its all relative to your net worth, not any particular account size. If $100k is all you have in the world, a 50% haircut is devastating.

Does anybody have a $1,000,000 IUL? Did anybody with a $1M IUL account build it up from zero? Bet not.
Nobody builds up a $1M account from zero on returns, everybody has to make savings contributions, regardless if its in a hedged or naked account.

So, it seems to me that an IUL is functionally useless to somebody with a low net worth. The protection is useless because half of a low number is still just a low number.
Actually, its the exact inverse. Only those who have enough money that they can afford to lose 50% and not have it affect their desired lifestyle can afford to take the risks of substantial drawdowns.

That's a very fine & rare number of folks.

Looking at my equity curve chart, with a $10K initial value ....
dropping from $66K to $40K in 2 years (2000-2002) hurts bad.
It took about 4 years to get back.
But it did.

If 1,000 people ran this plan, statistically how many would get trapped into selling/liquidating during the drawdown? I don't know the statistical answer, but the risks are significantly greater than most people are comfortable with when they are aware of the danger.

And in 7 years from the 2000 peak, 5 years form the bottom, it got to $76K.
Not such as big catastrophe, is it? 6 years to get back to the previous peak.

If you're among the lucky, its OK.

And then the drop from $76K to $40K in 1 1/2 years (2008-2009).
It took 3 years to recover back to $76K.
A little under 5 years to get back to the previous peak.
Not such as big catastrophe, is it?

Again, for those remaining standing, all is hunky dory.

=========================
Hi Sykesix,

Ray showed pretty convincingly that IULs don't outperform "the market" over time.

Anyone who was 'convinced' didn't pay attention.

There are only two reasonable conclusions from those data:
1) Ray's backtest was in error
Right
2) The original claim was bogus Nope

Since the IUL proponents haven't pointed out any errors in Ray's methodology,
I did, Ray's test fail to apply in sequence, as I previously explained.
When distributions are added to the effect, ignoring sequence quickly becomes not just underperforming, but catastrophic.

Do IULs provide market returns without market risk? AFAIK, the answer to that question is no. And none of the IUL proponents have tried to step up and show the answer is yes.

I have done so at least thrice;
Once in a prior thread, then linking to it twice more in this thread at posts;
71522
71517

=========================

Gene,

4 said yes and had IULs pitched to them by an agent. None were interested. Why?
It caps their upside because of the high internal expenses.

That may indeed have been the understanding that drove their decision, but very simply, they are wrong.

You can't get a zero drawdown strategy that captures 12-17% of a broad or blended market index for 1% outside the IUL products... at least not at present.


The reason we have money is we were willing to risk it

THIS... is a *SUPER KEY PHRASE*... and frankly, a massive fallacy.
The most successful investors take very very little risk. 'Unfair advantages' is the name of the game, for high net worths.

=========================

Ray,

Okay, annual 0% floor, 12% cap.
Index is S&P500 including constant dividend yield of 2.75%, Jan 1975 thru Dec 2012.
One time initial deposit of $10,000. (Doesn't matter, just scale up to whatever you want.)
Annual fees are fixed at 1%. I'm not sure how to apply the fee, though. Google didn't come up with anything the explained the details.


Its subtracted from the balance, then the credit is applied (same as any other investment fees, AFAIK.) But the fee figure will be lower on a 37 year build... read on.

What I found with google indicated that the mortality charges increase as you get older, so that would mean that the fee goes UP as the years go by.
No, the mortality costs per thousand of death benefit go up, but the amount of actual death benefit at risk drops faster, so the effect is a decreasing internal burden on capital.

So what figure should I use that is constant for the entire 37 year period? 1.00? 0.75%?
On a 37 year build, I believe i will be down around 50 bips, all inclusive... but for now let's run it 75, and we can adjust after I run my side (since yours is just one field in the spreadsheet.)

What I will do is run a forward projection for 37 years to determine the average annual internal burden, and then run the S&P from '75 through 2012 with the floor & caps with the handicap of the total internal fees.

I'm setting up the spreadsheet so that all these things are parameters so they'll be easy to change
Sounds good... I'm happy to help with Excel bits from my end as you build.

ONE MORE THING; Our OP asked about this as a retirement plan, which by definition requires distributions. Let's run distributions the last 10 years, down to full draw (zero out the account.) Ignoring what other offsetting income streams he may have, let's just make the 10 year distribution even each year. That way we'll have the full performance profile.

You can just pull the dough cost and tax free (you are assuming a ROTH, right?)
I'll pull it with a 5.3% additional interest burden, since I'll use policy loans to keep my tax free status.

Fair 'nuff?

Dave Donhoff
Leverage Planner
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