You've probably heard the following marketing balderdash thought up by someone promoting the sale of bad investments: "There are no bad investment products, just bad uses for them."
While there are certainly inappropriate uses for good products, there are also investment products in existence that should never have been created and that, when combined with ignorance or self-deception, can have disastrous results.
While every major branch of the financial services industry—banks, brokerage firms and insurance companies—are or have been the proprietors of bad products, there's little question that the product subheading of annuities under the insurance umbrella has attracted the most criticism.
They've even earned this tagline: "Annuities are not bought, they're sold."
While I'll admit the tagline was likely written in an effort to market an annuity alternative, it rings a great deal truer than the quote previously mentioned. You could also say that annuities are among the "most bought, least understood," financial products. So let's first define what an annuity is, and then run through the pros and cons.
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Types of annuities
Since the word annuity has generic applications outside of the investment universe, for the purposes of this article, an annuity is an investment product created by an insurance company. There are four primary varieties common in the marketplace: immediate annuities, fixed annuities, variable annuities and equity indexed (or just simply indexed) annuities.
Immediate annuity: a product in which you trade a lump sum of money for a stream of income from an insurance company.
Fixed annuity: characteristics similar to those of a certificate of deposit (CD) with a bank, although the terms are typically longer.
Variable annuity: characteristics similar to those of a mutual fund or mutual fund portfolio
Equity indexed annuity: in reality, a fixed annuity advertising gains indexed to the upside of equity markets without the downside. (If your too-good-to-be-true bells are going off, it's for good reason, but more on that in a moment.)
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