Risk And Reward
Are Traveling Companions

The “Immutable Law of Investing” is: “Risk and reward are traveling companions”. Investments promising to double your money rapidly can also erase your money quickly. The promise of a 12% return in today’s market also has a high probability of loss. The only exceptions are investments with guarantees – a very short list. Yet, investors constantly search for exceptions to this “Immutable Law of Investing”.

There are numerous “kinds of risk” that investors face. The most common faced by the typical investor are: (a) interest rate risk and (b) market risk. Of course there is also the risk of insolvency (corporate bonds), liquidity (real estate), currency exchange (off-shore investments), sovereignty (bonds of foreign governments), inflation (purchasing power), legislation (tax law changes) and numerous others. But, let’s limit this discussion to the most common: interest rate and market.

Market risk is perhaps the best understood and most commonly associated with stocks or other investments that can vary in price. Regardless of the “professional recommendation” or past performance, there is no “absolute safety” when purchasing investments whose price can fluctuate. American business icons have failed and investments in them made worthless because of fraud, mismanagement, terrorism, class action lawsuits, product liability, government investigations, rapid technological changes, weather, and countless other causes not foreseen by “experts” or anticipated by stockholders. Granted, “blue chip” stocks are not as risky as “penny stock”, but there have been spectacular, and unanticipated, failures of “blue chip” companies. If an investment can wax and wane in value, then it has market risk and the saying “caveat emptor” (buyer beware) is appropriate. Your clients’ retirement nest eggs in stocks, bonds, mutual funds, variable annuities, real estate and general securities are exposed to market risk and losses can, and may, occur. Only if they can “afford the risk” should they “assume the risk” because there is a safer alternative.

Interest rate risk is encountered daily but understood by few. This risk exposes even gilt-edged securities like U. S. Government Bonds to massive losses. For example, a 30-

year Treasury bond paying 5% interest is purchased today at par (face value at maturity). Interest of 5% will be paid every year and at the maturity in 30 years the principal amount will be repaid. But, what happens if interest rates on similar bonds rise to 10%? Every interest payment on the 5% bond is below market because now it would take only one-half the investment to earn the same amount of money. Or, put another way, if you sold the 5% bond, a buyer would offer you only one-half what you paid for it. Regardless if you hold or sell, you have lost opportunity or a loss. The cautious, but uninformed, investor may (a) buy only short term bonds (or bank CDs) with low interest rates, (b) buy only when interest rates are at the peak (is this possible?), or (c) avoid fixed-rate investments if selling early might be needed (medical emergency or need for liquidity). Again, there is a better alternative that offers safety.

So what’s a typical investor to do to minimize risk, maximize safety and preserve a chance of getting a market return? How about an investment that is guaranteed to only go up in value, will participate in market gains as they occur and avoid market declines if they happen, will avoid current income taxes on earnings, has no brokerage fees or other charges, has liquidity for emergencies, and is guaranteed by a global company with decades of operational stability and integrity? I’m speaking, of course, about equity-linked fixed annuities. There’s no market or interest rate risk, and they’re guaranteed by some of the largest, oldest and financially strongest insurance companies in the world that have survived wars, changes in governments, depressions, technological advances and virtually every shock that could occur. Granted these annuities are not for those that want to take risk, enjoy the thrill of seeing their investments go up and down like a yo-yo, and are willing to lose it all in hopes of doubling their money overnight. Equity-linked fixed annuities were designed for long-term savers that are building, or guarding, nest eggs for retirement and do not want, and cannot afford, to risk a diminished lifestyle after decades of working. The exception to the “Immutable Law of Investing” is: Equity-Linked Fixed Annuities, commonly known as Equity Index Annuities or just EIAs. I told you it was a very short list!

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