Don’t Invest In an Annuity-Choose Gold Instead

When you meet with a financial advisor they may recommend a variety of strategies to fund your retirement.  Most recommend a balanced mix of stocks and bonds (this is not a bad plan), some recommend using whole life insurance, and other may recommend an annuity.  The problem is that in most cases, the annuity is only good for the financial advisor to get paid a commission and it’s not a very smart choice for the client.

Consider recent comments by the federal reserve.  While Janet Yellen said that they are expecting an increase in rates, hidden in that speech is an important look into the shifting long term stance of the Fed regarding real interest rates.  While nominal interest rates will remain positive and may rise slowly, the Fed intends to keep real interest rates negative, something they are calling “conventional unconventional policy”.  This means that the inflation rate minus the nominal interest rate is negative and they intend to keep it that way for the forseable future.  But what does this mean for annuity holders?

Annuities Pay Extremely Low Interest

The problem that people face when they buy a fixed annuity is that interest rates are low, astonishingly low.  When you look at the rate of return that they get (about 2% from most companies as of the time of this writing) and you net out inflation, at a best case scenario they are just barely keeping pace with the rising cost of housing and goods and more likely they are falling further and further behind.  This means that in terms of real purchasing power, annuity owners are becoming poorer and poorer as inflation rises.

A fixed annuity works by paying out a fixed amount of money over a fixed period of time, or for the lifetime of the owner depending upon the type of annuity that they choose.  In exchange a lump sum payment, or series of payments was made to the insurance company.  Annuity owners obviously have a choice about what to do with their savings and retirement accounts.  They chose the annuity for a logical reason, but it may hurt them a lot later in life.

Draw of an Annuity

The reason people buy annuities instead of investing their money in stocks and bonds is because they know exactly how much money they will receive in a payout.  If they are budgeting for retirement, they can match the payout with their cost of living expenses and be guaranteed to have enough money.

They problem that people run into is that they assume that their cost of living is predictable.  In reality, the cost of housing, food, fuel, and unexpected expenses has risen significantly faster than anyone thought over the last 20 years.  What is someone to do if they own an annuity?  What should they do instead of buying an annuity?  Well luckily there are some better options for you.

Better Options Than Owning a Fixed Annuity

A fixed annuity may have a place as a small portion of a retirement account because it does guarantee a certain level of income no matter what the market does.  On the flip side, the owner bears way to much inflation risk.

What people need instead is a hedge against inflation.  There are a couple of ways that someone can allocate a portion of their retirement portfolio to do this.

Gold and Precious Metals Are the Best

Gold and precious metals are the best way in our opinion for a client to hedge against inflation.  Nothing else has proven to be so effective in the history of the world.  No matter what currency you own assets and cash in (we know its almost certainly the US dollar for you) during times of inflation savvy investors have flocked to gold and silver to preserve wealth and fight off the fear of inflation.  Why is it such a valuable way to do this?

The relative value of gold stays the same.  For example, let’s say that an average car costs 10 ounces of gold today and that equates to $15,000.  Now let’s say that inflation causes the value of the dollar to get cut in half over 5 years.  now the average car will cost you $30,000.  How much gold is this?  Well it will still only be 10 ounces.  The value of an ounce of gold will double if the value of currency gets cut in half. Regardless of what happens to the value of currency, the value in terms of buying power of precious metals actually tends to rise slowly over time.  During times of inflation, demand for metals actually usually increases their real buying power.

This makes gold and other precious metals like silver and platinum an unrivaled hedge against inflation.  The person stuck with an annuity will see their buying power drop with inflation.  The best choice between the two is clear to us.

What About a Stock and Bond Portfolio

Stocks and bonds can also be a hedge against inflation, but they carry significant risk.  Equity prices also reflect relative value, kind of similarly to gold, but they have unique risks and pricing fluctuations that can make them very dangerous for an investor that wants to keep his money.  For instance, stocks are subject to price cycles with the economy and market.  The prices also don’t really depend on 100% tangible factors, the price reflects other market driven variables such as perceived growth potential and speculation as well as overall sentiment.

Price to earnings ratios for equities can range from single digits to hundreds, and historically the S&P500 has ranged between less than 10 and more than 40, a very wide range indeed!  This means that the same group of stocks with the same fundamentals may trade for 1/4 the value one day than another day, based on the market sentiment.

Individual stocks can range from negative P/E’s to P/E ratios in the hundreds.  So while they technically adjust for inflation (all else being equal) the reality is that not all else is nearly equal.  Stock prices can do anything.  There is some evidence that we are at the end of a bull market upward run in equity values and stock prices may be due for a decline in the not too distant future.

Gold Wins

Gold on the other hand does experience fluctuation and cycles, but compared to stocks they have been minuscule for the vast majority of gold’s history.  Gold tends to rise over time, and for a lot of recent history the gains have outpaced the stock market.  Gold goes up when the stock market goes down, gold goes up during times of inflation, and gold tends to go up when the economy is good.  If you want to give yourself a good chance with a secure investment, instead of an annuity consider gold.