With interest rates at their highest level in decades and an increasingly cloudy economic outlook, it makes sense that interest in annuities has increased. Used properly, annuities can create a steady income and reduce overall portfolio volatility.
However, Allan Roth in a Barron’s article shares some risks that investors need to consider before investing in an annuity. In terms of simple annuities, there are two main kinds - single premium immediate annuities and multi year guaranteed annuities.
He says that a single premium immediate annuity is similar to a pension. Typically, these are bought through an insurance company, and it pays a defined amount every year. The benefits are that it provides cash for the rest of a clients’ life. But, the risk is that the value of this income can be diluted by inflation. This becomes more germane the longer the annuity is relied upon.
The other option is a multiyear guaranteed annuity which provides income for a certain period of time, typically between 5 to 10 years. This functions similarly to a certificate of deposit. Yields are slightly higher than a CD especially with longer durations. However, the higher yield does come with higher risk as CDs are backed by the FDIC while these annuities are backed by insurance companies which come with higher levels of risk.
Finsum: Annuities are seeing higher levels of demand due to increasing recession risk and high rates. Yet, there are some risk factors that investors need to consider.