According to the Federal Reserve’s Beige Book, every facet of the economy was sure to experience price hikes throughout 2021. Bond prices posted the first significant loss since 2013, plummeting due to increasing interest rates. Financial advisors expect further implications on the bond markets this year due to rising interest rates. Due to the expiration of federal bond-buying, experts expect interest rates to rise throughout 2022 – well into 2023. While the pandemic caused most of the nation’s workforce to adjust to a remote work environment, potential retirees also felt a change coming. Current retirement trends have observed an anomaly, showing how modern seniors live longer, experience higher pressure regarding income requirements, and strive to save more funds toward retirement necessities. Additionally, broader consumer trends, including the “Great Resignation,” have led people to consider early retirement. Retirees are struggling to combat rate increases on a fixed income while remaining competitive in accumulating retirement assets. Ultimately, investors alike have expressed growing concern over the impact of current financial advisors and retirement saving methods. In a more traditional sense, bonds have been a familiar source of portfolio stability, providing very little correlation with stock volatility. However, there may be a decreased effectiveness in the days to come. As rates rise, fixed-rate bond prices generally experience a drop, exposing clients to poor returns and loss of principal. Bracing for Rising Rates There are advantages to floating-rate securities, especially as they experience periodic adjustments to current market rates. For example, while investors are poised to take advantage of rising rates, they cannot match current rates as quickly. Ultimately, this practice leaves investors facing interest rate risk, which could seriously underperform. Floating-rate bonds are not without innovative alternatives, providing a whole new category of fixed annuities and adjustable-rate mechanisms. A floating-rate annuity enables a client’s principal to benefit from rising rates and functions similarly to floating-rate bonds, with tax-deferred products and guaranteed principal. For example, floating-rate annuities serve as a solution when financial professionals manage client portfolios or funds that must be kept safe from interest rates and market volatility. Interest-bearing bank accounts, CDs, money market funds, and other conservative products pair well with floating-rate annuities. The stock market can also experience varying levels of destruction when interest rates remain unpredictable or on the rise. However, variable trends are not always bad for equities in the long term. Upticks in rates could translate into raised earnings and rising stock prices, signaling growth and strength in economic conditions. Bonds Decrease as Rates Increase Should financial advisors look to fixed index annuities (FIAs) as the saving grace to the upcoming rate cycle? One look at the history of inflation and rate hikes, and it comes as no surprise to observe the increase in rates as bonds decrease. This year alone, inflation reached an all-time high within the last 40 years. As a result, financial experts expect the Federal Reserve to raise rates, ultimately producing negative returns. Adapting to challenges became the well-known theme throughout COVID-19, from shifting client services to unique work arrangements. Even the annuity industry successfully kept up with the evolving trends of the pandemic, becoming more efficient by transitioning to the use of digital servicing and ticketing as a new standard of operation. Additional and emerging market innovations continue to prove viable financial management alternatives, especially in terms of client portfolios. While financial advisors have not relied on FIAs in the past, they should not ignore this great potential. Professionals should not shy away from utilizing the emerging breed of fixed indexed annuities for the benefit of their clients. FIAs enable financial professionals to guarantee principal while offering a tax deferral alongside accumulation potential. The refreshed look of FIAs poses it to become a bond fund replacement for the foreseeable future. Reconsidering the 60/40 Rule The 60/40 rule has been utilized in traditional portfolios for decades, comprised of 40% bonds and 60% stocks. While this typical asset allocation is just one of many rules within the world of finances, experts are looking at using FIAs rather than bonds to reconsider the rule. An aggressive investor, for example, could use an FIA as a substitute for bonds alongside a 60% allocation of stocks. Ultimately, this would provide a greater level of accumulation potential, with interest tied to the stock index rather than rates. This scenario also works well for retirees or other clients considering retirement investments and lower risk tolerance. Financial advisors may offer FIAs as a reliable alternative, reducing exposure to aggressive investments. A client’s portfolio could experience steady equity to fixed income ratios, such as 40/60, 60/40, or 50/50. For FIA returns that tie into a market index, this client could maintain a portfolio with a higher weight on conservative investments and upside potential. FIAs can serve as a beneficial approach to a wide variety of end-user needs, especially for individuals looking for accumulation potential instead of a pure stock fund. Although it provides for many retirees and those looking forward to retirement, a portfolio comprised of 100% FIAs may not be the best fit for a fixed index annuity. Ultimately, allocating a portion of assets toward an FIA may be the best choice for our current financial climate. Annuity Products and FIAs Confidence for more advisors in FIAs as a viable retirement solution continues to rise with the recent innovations in terms of annuities. However, as most bond funds suffer losses in an unstable rate environment, most annuities held for specific periods will likely remain unfazed. Therefore, FIAs offer a reliable solution for financial advisors looking to provide intelligent options as a standard operation of their practice.
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