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Author: Rayvt Big gold star, 5000 posts Top Favorite Fools Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 75340  
Subject: Re: Strategy comparison S&P500 vs. IUL [rev 1] Date: 4/4/2013 5:51 PM
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How much is that 5% spread out over 20, 30, 40 years?
Quite a lot, actually. Compounding over a period of several decades has a far more major effect than people generally realize. Human brains just aren't equipped to intuitively grasp compounding. Addition, yes. Multiplication, yes. Compounding, no.

The 5% fee is certain. The benefit of raising the cap from 12% to 17% is not.
Although, historically, the S&P hit the 12% cap 35% of the time, and hit the 17% cap only 17% of the time. So you do capture much more of the gains

I wonder, though, if that 17% is contractually guaranteed.

You & CC talk about a 12% cap, but the contracts I've looked at say stuff like this:
"The guaranteed minimum index cap is 3%."
"The company at its sole discretion will make the determination whether to declare an index cap above the guaranteed
minimum index cap of 3%. While the company has no specific formula for determining an index cap above the minimum index cap of
3%, we may consider various factors, including, but not limited to the yields available on the instruments in which we intend to invest the
proceeds from the contract, the costs of hedging our investments to meet our contractual obligations, regulatory and tax requirements,
sales commissions, administrative expenses, general economic trends and competitive factors." (Bolding in original).

That's a whole lot of words saying that the company will set the cap wherever they darned well feel like.
And I think they're trying to tell you that when their investments do bad and when their hedging costs go up, and when their payrolls and office expenses go up -- that they are going to reduce the cap.

What does *that* do to an IUL? You can talk about no drawdowns and guarantees, and no risks all you want, but you completely ignore the risk that the company can lower the cap at its sole discretion.

What effect would that have? I'm glad you asked. ;-)
IUL, 12% cap, $10,000 grows to $145,500

IUL, 6% cap, $10,000 grows to $46,800.
No, I didn't make a typo. Forty six thousand dollars.

But maybe they're not that brutal.
IUL, 10% cap, $10,000 grows to $104,500

Just a little tweak of the cap 2% down, from 12% to 10% cuts your final account value by ONE-THIRD.


And, so far, the spreadsheet didn't include any IUL fees. I still don't have a good handle on what those would realistically be. What with the way that Dave has said it can vary, though, my guess would be "high". I didn't want to do the work in my spreadsheet to allow for fees that varied over time, just a constant percentage.

But....let's go with CC's lower figure, 0.75% (annual).
* IUL, 12% cap, NO fee -- $10,000 grows to $145,500
* IUL, 12% cap, 0.75% fee -- $10,000 grows to $109,000
YIKES!

IUL, 12% cap, 1.00% fee -- $10,000 grows to $99,300

Let's make a fair full-boat comparison.
* IUL, 12% cap, 0.75% fee -- $10,000 grows to $109,000

* S&P500, B&H, 0.09% fee (SPY) -- $10,000 grows to $618,000 (and has a couple of horrendous 50% losses, all the way down to $300,000 before recovering.)

* S&P500, SMA timing, 0.12% fee (SPY with a full-service broker commission) -- $10,000 grows to $410,538 (and has a 20% loss down to $200,000 before recovering, and another 15% loss down to $340,000 before recovering.)


Y'know, I really hope I screwed up bad somewhere in my spreadsheet. Because if these figures are right, IULs are a much worse investment than I thought.
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