Why Indexed Financial Products are Appealing

I am currently researching and am likely to purchase an indexed universal life insurance product.  This first-hand research and learning process has been interesting and is worth sharing.

In a nutshell, some of the key characteristics of indexed universal life insurance include:

  • This is a life insurance policy, but a good portion of the funds contributed to the policy can be invested and represent a “cash value” that builds over time.
  • The invested funds have some upside or growth potential as they are pegged to a handful of equity indexes (e.g. S&P, etc).
  • This upside potential is capped.  In other words, I only receive a portion of the overall return of the S&P index during a given year.
  • There is a low level of “minimum” investment return in the form of a guaranteed rate of interest.
  • During any given period (e.g. a year), I receive either the index return if things go well, or the guaranteed return if the world falls apart.
  • In either case, I receive nothing less than the guaranteed rate of return.
  • I can borrow from the cash value of the policy in the event that I need access to the funds during the life of the contract.
  • I don’t really care about any surrender charges since it is a life insurance policy that needs to be there for the next 20 years.
  • I could care less about the commission level and who is getting paid what—there is a lot of work that has gone into helping me understand which product and features are best for me.
  • The funds in the policy are tax-advantaged since it is a life insurance product.  In other words, similar to a 401(k), interest and capital gains over the life of the contract are not taxed.

To be quite honest, the fundamental draw for me is protection from capital market volatility. The world is a volatile place, and financial markets reflect and exacerbate this volatility.

In my opinion, having downside or “sleep at night” protection is vastly preferable to constantly being glued to markets or media in anticipation of some portfolio protecting trade I may need to make the next time there is a sovereign debt or "systemically important" bank downgrade and the end of the world is again at hand.

I have a life and may responsibilities outside of watching every tick of my portfolio.  I just don’t see who would have the time or ability to create the type of hedging structure contained in these products unless it is their full-time job

I am, by the way, happy to give-up some upside and be locked into a generic index in exchange for the floor on my downside exposure.  Let me have some auto-pilot tax advantaged growth potential without being exposed to the next 2007-2008 event.

To me, this is the beauty of indexed products—whether life insurance or annuities.


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