Does GUARANTEED INCOME mean the same as guaranteed investments? NOT NECESSARILY!
Variable..or Guaranteed? It is generally accepted, that 90% of investment returns are a result of your asset allocation choice.
For many people, the choice of investments is driven more strongly by emotion than intellectual decisions. In other words if you can't sleep at night, the choice is not right for you no matter how logical others make it sound.
The point of this, is that guarantees cost money. I have seen lots of articles that critique the cost of guarantees in products, but I have never seen one that says if you compare buying a 4% GIC to a stock portfolio with an average of return of 10%, you are paying 6% for the guarantee. The reason of course is because 10% is not guaranteed. If you buy a variable investment that has a guarantee, the MER (management expense ratio) will contain a premium for the guarantee. As a consumer, your job is to understand that cost and be happy with it because you want the guarantee.
Sometimes the investment solution is a mixture of guaranteed and variable options. Remember that while 90% of your long-term results come from the asset allocation decision, the other part of income planning equation is do I have enough without taking risks. Whatever your position, we have extensive experience in guiding clients to developing comfortable solutions for their situation.
Fully Guaranteed Products
The simplest guaranteed solution is a savings account or GIC when accumulating and an annuity when taking income. These guarantees are generally backed by insurance.
Advantages:
Peace of Mind
Liquidity or availability with no concern for market conditions
Guaranteed Annual increases
Disadvantages:
These products are taxed at the same rate as your personal income and after tax returns may be less than the current inflation rate, meaning that you will be able to buy less with your money than you could have been able to buy last year.
Variable Products
When we talk about variable products we refer to the fact that valuation will vary based on opinions of the real value, investor sentiment (are we excited or scared about general market conditions?), political conditions, government policy and a host of other factors that carnage from day to day. We refer to this as volatility or risk and measure these swings in pricing and define the risk in term of standard deviation. Standard deviation is a range of returns and the most common reference is one standard deviation meaning that two-thirds of the time the results will be in that range. Today's market place is becoming more volatile with the advent of computerized selling, short-selling by huge hedge funds and globalization of markets. Despite all this, properly managed accounts can take advantage of opportunities and minimize a clients risk exposure, giving better returns over time than GICs
Advantages:
Potential for Higher Returns
Tax preferences on dividend and capital gains as well as tax deferral on unrealized gains in non-registered accounts
Disadvantages:
May be illiquid or in a market down-turn when you want it so time horizons are an important feature of this investment decision
There is no guarantee of a gain in any specific time frame, only history and some suggestion of what is normal. The biggest problem with the idea of normal is that when someone says you will normally make money on a 5 year period, they refer to one standard deviation and that is once again quantified as two-thirds of the time.
The solution is to select an asset allocation that allows you to meet your short-term, mid-term and long-term objectives. And don't forget-your comfort zone.
Hybrids: Variable Products with guarantees
Hybrid Accumulation Products
The market place is very innovative. They offer individuals the chance to retain capital and only risk the potential gain on an investment with products like index linked GICs, Principle Protected Notes, and some versions of Segregated Fund Products. A prudent consumer should understand the costs of these guarantees before purchasing and their impact on the potential returns. Unfortunately a few products may filter into the market place that provide little chance of a gain after the expenses. Every consumer should be able to discuss these issues with their advisor and understand the implications of their choice.
Hybrid Variable Income Products
Unlike their cousins in the accumulation plans, the Income products focus the guarantee on what you are taking out. The capital is not guaranteed to increase and may in fact decline, but the income you will receive generally increases over time if the capital is increasing and stays the same if the capital values fall.
Advantages:
Potential for Higher Returns than fully guaranteed products
Tax preferences on dividend and capital gains as well as tax deferral on unrealized gains in non-registered accounts
A "floor" value can be established based on accumulation or income.
Disadvantages:
Guarantees have a cost. The cost should be understood and the potential impact on investment returns of comparable product is available without guarantees
May be illiquid at some time in the accumulation or the guarantee may apply to some date only.
There is no guarantee of a increase in value in any specific time frame although the income products may provide guarantees of increased income in the future.
Caution:
Income products should not represent your whole investment strategy. In the event that you have to encroach on capital (withdraw), you should have alternative assets to draw from. Withdrawals from the Income product will reduce the guaranteed of future income and you will have paid the additional cost of the eliminated guarantee for nothing
A frequently overlooked option providing guarantees is a life annuity. At ages over 70, planning options exist to retain your income and increase your guaranteed income significantly depending on you health situation.
