I have yet to find an insurance person who compares an equity-indexed annuity or insurance policy to the S&P 500 Total Return Index, which includes dividends.
One of the reasons could stem from the fact that the S&P 500 Index Price Return (Ticker: ^GSPC on Yahoo!) is what the insurance company uses when determining the amount to credit the policy each month or year. We won’t get into why insurance companies don’t credit based on total returns.
The other reason I can come up with as to why they don’t is that their products look much better when compared to the price index rather than the total return index.
I came across an article Sunday morning about an Indexed Universal Life (IUL) policy. This particular policy had a floor of 2% and a cap of 11.25%. A 2% floor means that the account value will always get credited at least 2%, no matter how badly the market performs. As you can probably guess, an 11.25% cap means that annual gains are capped at 11.25%, no matter how well the market performs. The index used to judge the amount credited to the account is the S&P 500 price return.
Two things can be seen from the graphic I put together, which looks at 10-year holding periods. The returns you see are average annual rates of return over the 10-year period. The math equation for the 1926 – 1935 time period looks like this (NOTE: the list of numbers you see below are the annual price returns for the S&P expressed as factors):
A couple of things are made clear by the following graphic I put together:
1. It’s definitely to the insurance company’s advantage to credit based on the price index.
2. It’s also obvious why insurance salespeople like to compare their products to the price index (it makes their products look much better).
One thing that also needs to be pointed out is that although the credits are “after all fees and expenses,” that’s not entirely accurate. A better way to say it would be, “after all fees and expenses on the investment account of the policy.” In other words, when a person sends a check to the insurance company, not all of their money goes to work for them in the investment account.
I hope the last few posts about insurance products has been helpful. I am not an insurance expert (heck, a big bulk of insurance salespeople are only familiar with a few of the products they sell), but I would think long and hard before I used the Bank on Yourself strategy or bought an equity-indexed annuity or indexed-universal life policy.