Ep. 219 – Annuities or CDs – What You Should Consider

In this Episode of the Secure Your Retirement Podcast, Radon and Murs discuss the similarities and differences between annuities and CDs and the best one for retirement planning. In as much as CDs and fixed index annuities are similar, CDs are best suited for short-term investments, while annuities are best suited for long-term investments.

Listen in to learn about interest rate risk or reinvestment risk associated with CDs and how it affects your investment in the long term. You will also learn about an annuity’s higher rate of return potential due to its many index options.

In this episode, find out:

  • Understanding interest rate risk or reinvestment risk when it comes to CDs.
  • Why it makes sense to have a short-term investment in a CD instead of a long-term investment.
  • The similarities and differences between CDs and fixed index annuities.
  • The higher rate of return potential of an annuity due to its many index options.
  • How a fixed index annuity works as a compliment to a portfolio full of equities.

Tweetable Quotes:

  • “CDs are driven off of these interest rates that are higher, and so are the annuities.”– Radon Stancil  

“We believe that a fixed index annuity works very well as a compliment to a portfolio full of equities to offset the risk of the market and bring predictability into the overall plan.”– Murs Tariq


If you are in or nearing retirement and you want to gain clarity on what questions you should be asking, learn what the biggest retirement myths are, and identify what you can do to achieve peace of mind for your retirement, get started today by requesting our complimentary video course, Four Steps to Secure Your Retirement!

To access the course, simply visit POMWealth.net/podcast.

Here’s the full transcript:

Radon Stancil:Hello everyone, and welcome to Secure Your Retirement Podcast. Today we’re going to talk about a topic that has been something that we have… I don’t know, I’ve been doing this for 22 years. And we’ve not had to talk about the potentials of going out and going and getting a CD that’s given us 4 to 5%. We talked for years and everybody was like, “I can only get 1 or 2%.” And the real premise to this conversation is, because we’ve gotten asked this, we do in our practice and in our teaching, we do talk a little bit about using fixed index annuities as a bond alternative, not as a replacement to the market. But we talk about this idea of, well, if I’ve got some money at risk in the market, how do I offset that risk? And so we’ve had some clients, we’ve also had some of other folks that are just asking our opinion and saying, “Why wouldn’t I just go put my money over in a CD that’s earning 4 or 5%?”  
 Right now we looked up rates, and as we’re recording this right now, you could go get a one-year CD earning about 5.5%. You could get a five-year CD earning about 4.5%. So the question comes up at this point, well, then why don’t I just go put it in the CD? Why would I put it in an annuity versus a CD? Especially, when we talk about a fixed index annuity. And so I think what I want to do is we’ll kind of start this off and we’re going to kind of talk a little bit about this from a couple different perspectives. But I think really we got to put them in the right place.  
 So let’s just think about this for a second, if I were going to then put things in a place. So I would say, all right, if I [inaudible] go on the highest risk, and I would say highest risk, give that context, the highest risk of what we would do. That would be equities, that would be things that are exchange traded funds, that are maybe the S&P 500, the NASDAQ, the Dow, those types of things. Maybe small cap, large cap, whatever that is. Equities in the stock market, that would be our most risky assets.  
 Now, even there we do put risk controls in place, but that’s what we have to tell folks, “Hey, look, this money needs to be there for a little bit longer term, it could have some downturn to it. The market drops, you’re going to have some losses, right?” So that’s one category. Another category is I would like to have a good rate of return. And as long as I don’t lose money on it, I would feel very comfortable with that. In that category, that’s really where we’re trying to say, “Okay, do I do a CD? Or do I do a bond? Or do I do a treasury bond? Or do I do something like a fixed index annuity or a fixed annuity?” And I think what we have to talk about here is what is our leaning? Do we feel like, I would just give me the 4.5 to 5, that I know I’m going to get? Or would I like a higher potential for return? As long as I’m not losing, I cannot lose.  
 And that’s really where the fixed index annuity comes into play, and so we’re going to really kind of do some comparison. There is a third category, by the way, and the third category is, I don’t really care about this being a return, I just want to have easy access to the money. That’s simply going to be cash in the bank, right? So that category, maybe if I could get a money market that’s paying me some money, then that’s fine. But the real goal here is I want liquidity. And I don’t want to worry about the return because I might need this for a bigger purchase or for emergency, okay. So we’re really talking about that middle category, that middle category that says, “I want to make a decent rate of return. I don’t want to lose a bunch of money.”  
 So let’s talk about what I call interest rate risk, right? This is not market risk, but interest rate risk. So could you kind of take it over here, Murs? And let’s talk a little bit about, when I talk about a CD, what would be my interest rate risk?  
Murs Tariq:Yeah. So right now, obviously CDs, money markets, it’s the hot topic because interest rates have gone up, the Fed has had to raise rates over time. And that has benefited banks and their ability to offer rates that we haven’t seen in quite some time. But if you think about interest rates, where they are today and where they were two or three years ago, pre-pandemic, the rates were very low. So what we know is interest rates are going to fluctuate. And if you think about what the goal of the Fed is, is their job or their goal is to tame inflation, get it back down. And as inflation starts to go down, we are going to see interest rates going back down. Now, how long does that take? Is it a year from now? Is it a couple of years from now? That part doesn’t really matter that much.  
 What interest rate risk is though, or reinvestment risk as well, is that, let’s say you go buy that CD today for one year. And you get that 5%, and you say, “Oh, that feels really good.” And now you’ve kind of aligned your overall plan and portfolio with a bunch of CDs, we’re seeing some of that happening. And the risk here is that, well, today 5% sounds pretty good, especially with the idea of a recession or whatever is coming over the next 6 to 12 months. Safe money just feels pretty good, but fast-forward a year from now, right? So you collected that 5% on the CD, and now the CD is at maturity and you have two options. One is to just let it sit and reinvest into a new term. When that happens, it’s all based off of current interest rates as far as what the bank is going to give you.  
 And so go to the scenario, well, interest rates really haven’t changed that much, so maybe you’ll get the 5% again. Interest rates are higher than where they were when you bought it a year from now. I think that’s going to be unlikely, so it’s hard to say that your CD renewal rate is going to be higher than what you got it for. But what is probable is that interest rates have started to lower from where they were a year ago when you bought it. And so now you reinvest, and maybe you reinvest into, now it’s 3.5%. Still feels kind of good, right? We haven’t seen those numbers in quite some time. Go down another year and now that 3.5% has now become 2%, or the 1.5% that we’ve been used to for quite some time. So that right there is your interest rate risk or your reinvestment risk.  
 The deal is good today, but it may not be good tomorrow. And that’s the thing that we have to evaluate. And I think it makes sense to have a portion of assets in a very… I would call one year a very short term investment. And so maybe you have something coming up and you say, “Hey, let me go buy that six months CD because I know I’m going to spend this money in the next six months or the next year. And let me get 5%, let me get that guaranteed 5% that the bank is offering.” I think that can make a lot of sense, but like Radon was saying, I think we need to look at it from different categories of investments. And also when you’re investing, you’re planning for the long term. Which I think now brings in the idea and the concept around the fixed index annuity, and what that can provide as far as a potential for a better rate of return over time.  
Radon Stancil:Yeah, so again, let’s come back and think about this for just a second. Banks, CDs are all driven off of these interest rates that are higher. Well, so are the annuities. And so the annuities give us better potential for rates of return or interest rates because interest rates are higher, just all kind of works together. The difference between the two is that the annuities are based on a longer term contract or a longer term period. So think if I were able to lock in a better interest rate type of an environment today. And know that I’m going to have that over the next 10 years, obviously that gives me a longer horizon. So as a comparison, let’s go back to what Murs was talking about. CD, if I go back a few years when interest rates were low, people were finding 1 to 2% interest rates in a CD.  
 Now they’re at anywhere from say 4.5 to 5.5, depending on how long I want to lock it up. Well, annuities for the last 15 years have averaged, fixed index annuities over a 10-year period, an annuity that’s clean, no riders with fees, around that 4 to 6% range on average. So way better than the CD, and that’s why people were attracted to them. Well, now everything is better, and so instead of it being that 4 to 6 range, you really can bump that up and call that in that 5 to 10 range, all because of that. And now we’re going to walk you through that, and so you understand why. So now you think about, if I say, “Well, I’m going to lock in a CD at 5.5.” Or, “I have the potential of anywhere in that range of 5 to 10.” Would I rather have that? So we’re going to talk about pros and cons.  
 With an annuity, I’ve got that bigger potential. I could have a year that’s a zero. Well, how in the world does that work? Okay, the way it works is, and we’ve got a few episodes on annuities and how they work. But in all essence, my interest is linked to an index, so let’s just use the S&P 500. So if I start this year, and then the S&P is up next year from where I started now. It’s up, let’s say 10%, I’m going to make 10%. I get to make all that because the current rates allow me to make in some annuities higher than 10, but let’s just use 10. 10%, I can make that much, but if now let’s say that I get the annuity this year and then a year from now the S&P is negative. Well, then I cannot lose money, so I can’t be negative, but I would make a zero. So you see how that works.  
 But what we know is on average, if you look at the average the S&P is going to be up more than it’s down, and I get to participate in those ups. And so when I look at that over a 10-year period of time, and I look at it in that window, that’s how I’m now getting in that 5 to 10% range of return. And there’s multiple indexes around this, it’s not just one index. Many of the annuities today, one of our most popular annuities today that we like has many different index options. So we can diversify, we can make changes if the environment changes. And so that’s how we feel more confident in saying those higher rates of return. So I think on that… Murs, do you want to explain anything further on that when it comes to the index strategy? Or…  
Murs Tariq:Yeah, I think understanding the index strategy is good. At the end of the day I think Radon and I we both agree that it always comes back to the, why? Of why are we using an annuity? Or why are we putting our money into the stock market? Or why are we buying the CD, right? And for us in I would say 90% of cases that we work with when we’re utilizing an annuity, it’s really there for what Radon said at the beginning of the episode as a bond alternative. So you got to shape your mind in a way of how does a bond work? Well, a bond is there to be conservative, it’s there to offset the risk of your equities in the portfolio. And it’s there to protect you, right? That’s been the general consensus of that’s what bonds are going to do in a portfolio.  
 Well, if you go back to 2020, 2021 and 2022, bonds were negative, bonds hurt portfolios more than they helped. And so in our perspective, why would you put money into a bond instrument? Why would that be the first place to go to when you’ve got a different type of instrument that provides guarantees of you can’t lose money in them? And you’re going to get a similar bond-like return, right? If I asked someone in the room, a client in the room, and I say, “Hey, what do you expect your bonds to make?” The common answer is, if it makes 3 or 4 or 5%, I think it’s doing its job. Well, the fixed index annuity, like Radon said, the last 10 years we were saying 4 to 6%. The next 10 years we’re saying, “Hey, it could be in that realm of 5 to 10%.” So doing bond-like returns, if not better, without the risk of the bond market.  
 And so I think that is the why we believe that it works very well as a compliment to a portfolio full of equities. To offset the risk of the market and really bring in predictability into the overall plan. But yeah, that’s what I got to add.  
Radon Stancil:Yeah, and I think that, again, to come back to we’re not saying there’s not a place to do CDs. That’s not the point of this story, because we do think there is. Murs said it, and I’m going to repeat it again. You say, “Hey, this is money that I’m going to park for a year and then I’m going to take it out and I got to use it for something.” That’s a great, great place to put the money then. Go get the 5% for the next year, then take it out. Maybe you’re going to buy a house, maybe you’ve got some big project you’re going to do, so you get to make that 5%. 100% we’re talking about retirement money is what we’re talking about. So what do I do with my IRAs, my 401(k)s, and my other investments that are long-term investments that I’m trying to utilize throughout my retirement? That’s where we say, “Well, maybe the CD could have too much interest rate risk. We might want to dial that back and look at other things that could give us more of an opportunity.”  
 Anyway, as I said, we’ve got other episodes on this as well. If you’re listening to this and you think you’d like to have a conversation, feel free to go to the website, click on the schedule call at the top right-hand corner. Our calendar comes right up, you can schedule a call with us at absolutely no obligation. And we would love to have a conversation with you. We hope this is at least giving you a little bit of things to think about. Have a great week, we’ll talk to you again next Monday.