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Category: Investment Planning

Annuities

Posted on by Frank Fu
Latest News

Annuities

What is an annuity?

An annuity is a contract between you (the purchaser or owner) and the issuer (usually an insurance company). In its simplest form, you pay money to the annuity issuer, the issuer invests the money for you, and then the issuer pays out the principal and
earnings back to you or to a named beneficiary.

Two distinct phases to annuities

There are two distinct phases to the life of an annuity contract. One phase is called the accumulation (or investment) phase. This phase is the time period when you invest money in the annuity. You can invest in one lump sum (called a single payment annuity), or you can invest a series of payments in an annuity. The payments may be of equal size over a number of years (e.g., $5,000 per year for 10 years), or they may consist of a series of variable payments. The second phase to the life of an annuity contract is the distribution phase. There are two broad options for receiving distributions from an annuity contract. One option is to withdraw earnings (or earnings and principal) from an annuity contract. You can withdraw all of the money in the annuity (both the principal and the earnings) in one lump sum, or you can withdraw the money over a period of time through regular or irregular payments. With these withdrawal options, you continue to have control over the money that you have invested in an annuity. You can withdraw just earnings (interest) from the account, or you can withdraw both the principal and the earnings from the account. If you withdraw both the principal and the earnings from the annuity, there is no guarantee that the funds in the annuity will last for your entire lifetime. A second broad withdrawal option is the guaranteed income (or annuitization ) option.

Guaranteed income (annuitization) option

A second broad withdrawal option for an annuity is the guaranteed income option (also called the annuitization option). If you select this option, you will receive a guaranteed income stream from the annuity. The annuity issuer promises to pay you an amount of money on a periodic basis (monthly, quarterly, yearly, etc.). You can elect to receive either a fixed amount for each payment period (called a fixed annuity payout ) or a variable amount for each period (called a variable annuity payout ). You can receive the income stream for your entire lifetime (no matter how long you live), or you can receive the income stream for a specific time period (10 years, for example). You can also elect to receive the annuity payments over your lifetime and the lifetime of another person (called a “joint and survivor annuity”). The amount you receive for each payment period will depend on how much money you have in the annuity, how earnings are credited to your account (whether fixed or variable), and the age at which you begin the annuitization phase. The length of the distribution period will also affect how much you receive. If you are 65 years old and elect to receive annuity distributions over your entire lifetime, the amount you will receive with each payment will be less than if you had elected to receive annuity distributions over 5 years.

Example(s): Over the course of 10 years, you have accumulated $300,000 in an annuity. When you reach 65 and begin your retirement, you annuitize the annuity (i.e., elect to begin receiving distributions from the annuity). You elect to receive the annuity payments over your entire lifetime–called a single life annuity. You also elect to receive a variable annuity payout whereby the annuity issuer will invest the amount of money in your annuity in a variety of investment subaccounts. The amount you will then receive with each annuity payment will vary, depending in part on the performance of the subaccounts. In the alternative, you could have elected to receive payments for a specific term of years. You could have also elected to receive a fixed annuity payout whereby you would receive an equal amount with each payment.

Caution: Guarantees are subject to the claims-paying ability and financial strength of the annuity issuer.

Cannot outlive payments to you if you elect to annuitize for your entire lifetime

One of the unique features to an annuity is that you cannot outlive the payments from the annuity issuer to you (assuming you elect to receive payments over your entire lifetime). If you elect to receive payments over your entire lifetime, the annuity issuer must make the payments to you no matter how long you live. Even if you begin receiving payments when you are 65 years old and then live to 100, the annuity issuer must make the payments to you for your entire lifetime. The downside to this ability to receive payments for your entire life is that if you die after receiving just one payment, no more payments will be made to your beneficiaries. You have essentially given up control and ownership of the principal and earnings in the annuity.

Immediate and deferred annuities

There are both immediate and deferred annuities . An immediate annuity is one in which the distribution period begins immediately (or within one year) after the annuity has been purchased. For example, you sell your business for $1 million (after tax) and then retire. You purchase an immediate annuity for $1 million and begin to receive payments from the annuity issuer immediately.

A second type of annuity is a deferred annuity. With a deferred annuity, there is a time delay between when you begin investing in the annuity and when the distribution period begins. For example, you may purchase an annuity with a single payment and then not begin receiving payments for 10 years. Alternatively, you may invest a series of payments in an annuity over a period of 5 years before the distribution period begins.

Earnings tax deferred

One of the attractive aspects to an annuity is that the earnings on an annuity (i.e., the interest earned on your money by the issuer) are tax deferred until you begin to receive payments from the annuity issuer. In this respect, then, an annuity is similar to a qualified retirement plan . Over a long period of time, your investment in an annuity may grow substantially larger than if you had invested money in a comparable taxable investment. (However, like a qualified retirement plan, there may be a 10 percent tax
penalty if you begin withdrawals from an annuity before the age of 59½.)

Four parties to an annuity

There are four parties to an annuity: the annuity issuer, the owner, the annuitant, and the beneficiary. The annuity issuer is the company (e.g., an insurance company) that issues the annuity. The owner is the individual who buys the annuity from the annuity
issuer and makes the contributions to the annuity. The annuitant is the individual whose life will be used as the measuring life for determining the distribution benefits that will be paid out. (The owner and the annuitant are usually the same person, but they do not have to be.) Finally, the beneficiary is the person who receives a death benefit from the annuity upon the death of the contract owner.

What are some of the common uses of annuities?

Developed by insurance companies to provide retirement income

Life insurance companies first developed annuities to provide income to individuals during their retirement years. This function is in contrast to the benefits that a life insurance policy provides to your beneficiaries after your death. Although annuities were first developed to fund an annuitant’s retirement years, there is no requirement that an annuity be used only for retirement purposes. In fact, annuities may be and are used to fund other financial goals, such as paying for a child’s education or starting a business.

Example(s): Liz is a highly successful entrepreneur. Her business has grown far beyond what she has ever imagined, but her long hours have taken a toll on both her and her family. Liz plans to sell the company in the near future and pursue her lifelong interest in landscape painting full-time. Even though she expects a modest income from the sale of her paintings, Liz will use the sale proceeds from her company to purchase an annuity that will provide her with regular, guaranteed income for the rest of her lifetime.

Example(s): In contrast, Sam is vice president for a small manufacturing company. Unfortunately, Sam’s company does not offer a retirement plan, and he has already contributed the maximum amount to his individual retirement account (IRA). Knowing that
he can and needs to save more aggressively for retirement, Sam purchases an annuity to which he will contribute regularly until he retires. He will then receive a guaranteed income stream from the annuity in addition to receiving Social Security and income from his IRA.

Caution: Guarantees are subject to the claims-paying ability and financial strength of the annuity issuer.

How do annuities differ from other retirement plans?

Annuities differ from other types of retirement plans in several important ways.

Contributions are not tax deductible

Unlike contributions to a qualified retirement plan, money you invest in an annuity is not tax deductible. Any money that you use to purchase an annuity will be after-tax income. (However, like a qualified retirement plan, interest and capital gains earned by an annuity will accrue tax deferred until you begin withdrawing the money from the annuity.)

Contributions are unlimited

All qualified retirement plans have limitations on how much you can contribute each year. With many plans, the amount that can be contributed is quite low. However, there is no limitation on how much you can invest in an annuity. If you win a lump sum of $1 million in the lottery, you can invest the full amount (after paying the applicable income taxes, of course) in an annuity.

May receive income for life from annuity

One of the unique features to an annuity is that you cannot outlive the income payments (assuming you elect to receive the payments over your entire lifetime). With some types of qualified retirement plans, you will receive payments from the plan only until all the money in the retirement account is depleted. There is the real possibility that you could outlive the money available in the account. Some qualified retirement plans do offer you the option to convert monies in the account into an annuity upon retirement.

Investment options

The money that you use to purchase an annuity may be placed in the annuity issuer’s general funds pool. The money is then invested and managed by the issuer’s own money managers. Some types of annuities (called variable annuities ) allow you to place your annuity funds in specific investment pools, typically called subaccounts. The funds are managed by an investment advisor. You may then be able to move your annuity investments between stocks, bonds, money markets, or other types of investments. The investment return and principal value of an investment option are not guaranteed. Because variable annuity subaccounts fluctuate with changes in market conditions, the principal may be worth more or less than the original amount invested when the annuity is surrendered.

Caution: Variable annuities are long-term investments suitable for retirement funding and are subject to market fluctuations and investment risk including the possibility of loss of principal. Variable annuity contracts contain limitations, exclusions, holding periods, termination provisions, terms for keeping the annuity inforce, and contain fees and charges including, but not limited to mortality and expense risk charges, sales and surrender (early withdrawal) charges, administrative fees and charges for optional benefits and riders. Variable annuities are sold by prospectus. You should consider the investment objectives, risk, charges, and expenses carefully before investing. The prospectus, which contains this and other information about the variable annuity contract and underlying investment options, can be obtained from the insurance company issuing the variable annuity or from your financial professional. You should read the prospectus carefully before you invest.

What are the advantages to annuities?

Earnings accrue tax deferred

As noted, one of the main advantages to an annuity is that the interest generated by an annuity accrue tax deferred. Over a long period of time, this deferral of taxes on earnings can be an advantage for an annuity over a comparable taxable investment.
However, lower tax rates for capital gains and dividends, as well as the treatment of investment losses, could make the return for taxable accounts more favorable than tax-deferred accounts.

Guaranteed payments for life

Another advantage to an annuity is that you can receive payments from the annuity for your entire lifetime. As long as you elect to receive payments over your entire lifetime when the payout period begins, you will receive the payments for as long as you are alive. Even if you live to the age of 100, the annuity issuer must make the payments to you.

No contribution limits

Unlike qualified retirement plans, there is no limit on how much you can invest in an annuity.

Many different types of annuities available

In recent years, there has been an increase in the number and variety of annuities available in the marketplace. There are numerous fixed annuities, variable annuities, and indexed annuities that an individual can choose.

Can delay payout until later age

With most qualified retirement plans, you must begin taking money out of the plan by a certain age (usually 70½). With an annuity, there is no age limit at which you must begin receiving payments from the annuity. If you do not need the money from the annuity, you can continue to have the earnings accrue tax deferred.

Proceeds avoid probate

If you die before the distribution period begins, then the money you have invested in the annuity (plus any accrued interest or earnings) does not have to be included in your probate estate if you have named a beneficiary on the annuity. The money in your annuity will pass directly to that named beneficiary. Because of the potential delays and costs in having your assets pass through probate, most estate planners recommend that you try to avoid having assets pass through probate.

What are the tradeoffs to an annuity?

Costly fees and expenses

Annuities normally entail higher fees and expenses when compared to other types of investments, such as mutual funds and bank deposits.

May have high surrender charges

Many annuities have high “back-end” surrender charges if you withdraw your money from the annuity within the first few years. In many instances, the surrender charge may be 8 percent of any money you withdraw in the first year, then 7 percent of any money you withdraw in the second year, and continuing down to zero by the ninth year.

Contributions not tax deductible

Another disadvantage to an annuity (in comparison to certain qualified retirement plans) is that investments in an annuity are not tax deductible. You must use after-tax dollars to purchase an annuity. This is why it is normally best to place the maximum amount of funds in vehicles that allow for pretax contributions first.

Tax penalties for early withdrawals

Another concern when purchasing annuities is that the tax code imposes a 10 percent penalty tax (in addition to any other taxes owed on the payments) on withdrawals of any earnings from an annuity before you reach the age of 59½. There are certain
exceptions to the imposition of this penalty, but in most cases you will have to pay an additional tax penalty if you withdraw earnings from the annuity before you reach the cut-off age.

Payout plan is irrevocable once selected

Once you elect a specific distribution plan, annuitize the annuity, and begin receiving payments, then that election is usually irrevocable. For example, you are not allowed to change an election to receive annuity payments for a five-year period to an election to receive payments over your whole life.

Income from fixed annuity may not keep up with inflation

Another tradeoff with certain types of annuities (specifically immediate annuities) is that the income from the annuity may not keep pace with inflation over the long term. Variable and indexed annuities have been increasing in popularity since their investment options may offer inflation protection and growth.

Must rely on financial strength of annuity issuer

With certain types of annuities, specifically fixed but also some variable subaccounts, the money you invest in the annuity becomes part of the general funds of the annuity issuer. The annuity issuer then manages your money, its money, and other people’s money as one unit. If the annuity issuer has financial problems, your payments (or the amount of your payments) may be in trouble. Unlike bank deposits at federally insured financial institutions, there are no federal guarantees on the money you invest in an annuity and only limited state provisions in the event of insolvency of the insurer. You are relying solely on the financial strength of the annuity issuer to repay your investment. For this reason, you should purchase an annuity only from an insurance company (or other annuity issuer) that has high financial ratings .

Why contribute to qualified retirement plans first?

Maximize contributions to qualified retirement plans first

If you are eligible to contribute to a qualified retirement plan either through your employer or if you are self-employed, it usually makes sense to contribute the maximum amount to one of these plans before you purchase an annuity. The primary reason for this fact is that contributions to qualified retirement plans are tax deductible (up to certain limits), whereas contributions to an annuity must be made with after-tax money. Of course, with both qualified retirement plans and annuities, the money invested accrues tax deferred until you begin withdrawals.

Why shop around for annuities?

Costs and returns may vary for annuities

Annuities tend to be more costly (in terms of fees, surrender charges, and other costs) than other types of investments, primarily because the annuity issuer provides additional benefits to you. Annuity issuers must therefore charge higher fees to cover the cost of these additional benefits. Furthermore, the returns that issuers pay on annuities can vary dramatically from one company to the next. Because new variations of annuities are constantly being introduced in the marketplace and because the financial services industry has become increasingly competitive, it can pay to shop around when buying annuities.

IMPORTANT DISCLOSURES FF Global Capital does not provide investment, tax, legal, or retirement advice or recommendations. The information presented here is not specific to any individual’s personal circumstances. To the extent that this material concerns tax matters, it is not intended or written to be used, and cannot be used, by a taxpayer for the purpose of avoiding penalties that may be imposed by law. Each taxpayer should seek independent advice from a tax professional based on his or her individual circumstances. These materials are provided for general information and educational purposes based upon publicly available information from sources believed to be reliable — we cannot assure the accuracy or completeness of these materials. The information in these materials may change at any time and without notice.

Prepared by Broadridge Investor Communication Solutions, Inc. Copyright © 2024
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Top 30 Global Ideas for 2022

Posted on by Frank Fu

latest news

Top 30 Global Ideas for 2022 Third-Quarter Update

In this note, we present our Top 30 Global Ideas for Q3 2022. This list remains one of high-conviction, long-term ideas, with quarterly updates that enable dynamic changes into names that we think offer higher- conviction upside potential.

Since publishing our Q2 update on April 4, 2022, the Top 30 list has delivered a total return of -17.4% (in USD terms) versus our benchmark, the MSCI World Index, at-15.6%. Year-to-date, the list has delivered a total return of -14.0%, above the benchmark at -20.1%, and since inception of our quarterly list at year-end 2019, the Top 30 has delivered a total return of +20.8%, above the benchmark at +13.2%.

Recession risk, rising rates and inflation remain key areas of focus across sectors. As of our latest US Equity Strategy RBC Macroscope update (published June 6, 2022), on a 6-12 month view, our Strategy team continues to believe that stock market leadership is transitioning from Value to Growth and that defensive areas have started to look over-owned and overvalued, while acknowledging near-term risks to that view should equities start to price in a full recession.

With the changes to the Top 30 list this quarter, we switch into best ideas that we also view as offering more attractive positioning against the current macro backdrop. On an equal-weighted basis, we increase the Top 30 list’s Real Estate and Utilities exposure to overweight versus the MSCI World Index, maintain a modestly overweight position in Financials, and remain notably overweight Energy and Industrials, driven by the inclusion of individual high-conviction names under coverage.

In Real Estate, we add Communications Infrastructure company American Tower (AMT US), which we think is well positioned to benefit from mobile 5G spending by its carrier customers, with accelerating site leasing trends in its core US market as well as many of its international markets. In 2023 and beyond, we believe AMT should post 10%+ AFFO/share growth and an attractive dividend, coupled with inflation protection in most of its international markets given its CPI-linked lease escalators.

In Utilities, we add independent power producer The AES Corporation (AES US). We believe AES offers a compelling decarbonization story, potential to become a leader in the clean energy producer space, and attractive valuation relative to defensive utility peers.

In Health Care, we add Lonza Group (LONN SW), which we think is positioned to benefit from multi-year structural tailwinds in biologic pharmaceutical manufacturing. We see life science funding concerns as overblown for CDMOs, and our recent supply/demand analysis suggests the long-term growth outlook is de- risked. In our view, the shares appear attractively valued at current levels vs. peers and due to the high return on incremental invested capital (25-30%), as well as opportunities to invest using its strong balance sheet. We remove robotic-assisted surgery company Intuitive Surgical (ISRG US) as we see potential for a tightening of hospital capital spending in the near term, elongating sales cycles. That said, we maintain an Outperform rating and continue to view ISRG as uniquely positioned for a multi-year runway of growth.

In Information Technology we replace Twilio (TWLO US) with Veeva Systems (VEEV US), which we view as offering defensive attributes (Veeva sells mission critical software to life sciences, a defensive industry), multiple growth drivers, a leading financial model, and reasonable valuation.

In Consumer Discretionary, we remove Amazon.com (AMZN US) as we see risk to H2/22 outlook in the event of marginal consumer softness and associated excess capacity, while maintaining an Outperform rating. In Materials, we remove building solutions manufacturer Louisiana-Pacific (LPX US) given potential for near-term headwinds associated with higher interest rates and slowing North American housing growth, while our long- term positive thesis remains intact.

This report contains further detail on our investment thesis for each of the names on the Q3/22 list beginning on page 7. We encourage you to reach out to our team to continue the dialogue regarding their investment ideas.

We see our fundamental work being increasingly augmented by our four flagship research products: RBC FusionTM, RBC TM, RBC ElementsTM, and RBC ESG StratifyTM. RBC Fusion offers peer-reviewed, unique reports on our highest-conviction, most-differentiated calls. RBC Imagine is a series of fundamental research reports focused on disruptive forces that we believe will transform the world. Our RBC Elements work features proprietary insights generated in collaboration with our internal data science team. With RBC ESG Stratify, we separate the signal from the noise on ESG matters with precise, analytical research.

Top 30 Global Ideas for 2022 — Changes this Quarter

Additions: The AES Corporation (AES US), American Tower (AMT US), Lonza Group (LONN SW), Veeva Systems (VEEV US)

Deletions: Amazon.com (AMZN US), Intuitive Surgical (ISRG US), Louisiana-Pacific (LPX US), Twilio (TWLO US)

Top 30 Global Ideas for 2022 — Pricing Data

Notes:


1 Subsequent to the July 4, 2022 pricing of the Top 30 Global Ideas for 2022, ADS’s price target was lowered to EUR 205.00 (from EUR 265.00) on July 5, 2022. 


2 AltaGas Ltd. (TSX: ALA) has agreed to sell its Alaskan Utilities to TriSummit Utilities Inc. announced on May 26, 2022. RBC Capital Markets served as financial advisor to AltaGas. The transaction is anticipated to close no later than the first quarter of 2023 and will be subject to customary closing conditions, including State regulatory approvals. This research report and the information herein is not intended to provide voting advice, serve as an endorsement of the transaction or result in procurement, withholding or revocation of a proxy or any other action by a security holder.


3 This security is restricted pursuant to RBC Capital Markets policy and, as a result, its continued inclusion in the Top 30 Global Ideas list has not been reviewed or confirmed as of the date hereof.

Past performance is not necessarily indicative of future performance. Price performance does not take into account relevant costs, including commissions and interest charges or other applicable expenses that may be associated with transactions in these shares.

Top 30 Global Ideas for 2022 — Changes This Quarter

Note: Past performance is not necessarily indicative of future performance. Price performance does not take into account relevant costs, including commissions and interest charges or other applicable expenses that may be associated with transactions in these shares.

Source: Bloomberg and RBC Capital Markets

Top 30 Global Ideas — Performance Summary

Although the Top 30 is not intended to be a relative product, having been created to capture RBC Capital Markets’ best ideas on an absolute basis, we compare the performance of the Top 30 to the MSCI Developed World Index and regional indices to provide context for its returns. See the performance tables below for Q2 2022 (April 4, 2022 to July 4, 2022) and since inception (December 2019).


Notes: Q2 2022 performance calculated from the time of publishing the Top 30 Q2 2022 update before market open on April 4, 2022, to market close on July 4, 2022. Past performance is not necessarily indicative of future performance. Price performance does not take into account relevant costs, including commissions and interest charges or other applicable expenses that may be associated with transactions in these shares.


1 This security is restricted pursuant to RBC Capital Markets policy and, as a result, its continued inclusion in the Top 30 Global Ideas list has not been reviewed or confirmed as of the date hereof.
Source: Bloomberg and RBC Capital Markets

IMPORTANT DISCLOSURES FF Global Capital does not provide investment, tax, legal, or retirement advice or recommendations. The information presented here is not specific to any individual’s personal circumstances. To the extent that this material concerns tax matters, it is not intended or written to be used, and cannot be used, by a taxpayer for the purpose of avoiding penalties that may be imposed by law. Each taxpayer should seek independent advice from a tax professional based on his or her individual circumstances. These materials are provided for general information and educational purposes based upon publicly available information from sources believed to be reliable — we cannot assure the accuracy or completeness of these materials. The information in these materials may change at any time and without notice.

Prepared by Broadridge Investor Communication Solutions, Inc. Copyright 2022

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What Do Rising Interest Rates Mean for Your Money?

Posted on by Frank Fu

LATEST NEWS

Interest Rates

Although rising interest rates make it more expensive for consumers and businesses to borrow, retirees and others who seek income could benefit from higher yields on savings accounts and CDs.

What Do Rising Interest Rates Mean for Your Money?

On March 16, 2022, the Federal Open Market Committee (FOMC) of the Federal Reserve raised the benchmark federal funds rate by 0.25% to a target range of 0.25% to 0.50%. This is the beginning of a series of increases that the FOMC expects to carry out over the next two years to combat high inflation. 1


Along with announcing the current increase, the FOMC released economic projections that suggest the equivalent of six additional 0.25% increases in 2022, followed by three or four more increases in 2023.2 Keep in mind that these are only projections, based on current conditions, and may not come to pass. However, they provide a helpful picture of the potential direction of U.S. interest rates.

What is the federal funds rate?

The federal funds rate is the interest rate at which banks lend funds to each other overnight to maintain legally required reserves within the Federal Reserve System. The FOMC sets a target range, usually a 0.25% spread, and then sets two specific rates that act as a floor and a ceiling to push the funds rate into that target range. The rate may vary slightly from day to day, but it generally stays within the target range.

Although the federal funds rate is an internal rate within the Federal Reserve System, it serves as a benchmark for many short-term rates set by banks and can influence longer-term rates as well.

Why does the Fed adjust the federal funds rate?

The Federal Reserve and the FOMC operate under a dual mandate to conduct monetary policies that foster maximum employment and price stability. Adjusting the federal funds rate is the Fed’s primary tool to influence economic growth and inflation.

The FOMC lowers the federal funds rate to stimulate the economy by making it easier for businesses and consumers to borrow, and raises the rate to combat inflation by making borrowing more expensive. In March 2020, when the U.S. economy was devastated by the pandemic, the Committee quickly dropped the rate to its rock-bottom level of 0.00%–0.25% and has kept it there for two years as the economy recovered.

The FOMC has set a 2% annual inflation goal as consistent with healthy economic growth. The Committee considered it appropriate for inflation to run above 2% for some time in order to balance the extended period when it ran below 2% and give the economy more time to grow in a low-rate environment. However, the steadily increasing inflation levels over the last year — with no sign of easing — have forced the Fed to change course and tighten monetary policy.

How will consumer interest rates be affected?

The prime rate, which commercial banks charge their best customers, is tied directly to the federal funds rate and generally runs about 3% above it. Though actual rates can vary widely, small-business loans, adjustable-rate mortgages, home-equity lines of credit, auto loans, credit cards, and other forms of consumer credit are often linked to the prime rate, so the rates on these types of loans typically increase with the federal funds rate. Fed rate hikes might also put upward pressure on interest rates for new fixed-rate home mortgages, but these rates are not tied directly to the federal funds rate or the prime rate.


Although rising interest rates make it more expensive for consumers and businesses to borrow, retirees and others who seek income could eventually benefit from higher yields on savings accounts and certificates of deposit (CDs). Banks typically raise rates charged on loans more quickly than they raise rates paid on deposits, but an extended series of rate increases should filter down to savers over time.

What about bond investments?

Interest-rate changes can have a broad effect on investments, but the impact tends to be more pronounced in the short term as markets adjust to the new level.

When interest rates rise, the value of existing bonds typically falls. Put simply, investors would prefer a newer bond paying a higher interest rate than an existing bond paying a lower rate. Longer-term bonds tend to fluctuate more than those with shorter maturities because investors may be reluctant to tie up their money for an extended period if they anticipate higher yields in the future.

Bonds redeemed prior to maturity may be worth more or less than their original value, but when a bond is held to maturity, the bond owner would receive the face value and interest, unless the issuer defaults. Thus, rising interest rates should not affect the return on a bond you hold to maturity, but may affect the price of a bond you want to sell on the secondary market before it reaches maturity.

Although the rising-rate environment may have a negative impact on bonds you currently hold and want to sell, it might also offer more appealing rates for future bond purchases.

Bond funds are subject to the same inflation, interest rate, and credit risks associated with their underlying bonds. Thus, falling bond values due to rising rates can adversely affect a bond fund’s performance. However, as underlying bonds mature and are replaced by higher-yielding bonds within a rising interest-rate environment, the fund’s yield and/or share value could potentially increase over the long term.

How will the stock market react?

Equities may also be affected by rising rates, though not as directly as bonds. Stock prices are closely tied to earnings growth, so many corporations stand to benefit from a more robust economy, even with higher interest rates. On the other hand, companies that rely on heavy borrowing will likely face higher costs going forward, which could affect their bottom lines.

The stock market reacted positively to the initial rate hike and the projected path forward, but investors will be watching closely to see how the economy performs as interest rates adjust — and whether the increases are working to tame inflation.3

The market may continue to react, positively or negatively, to the government’s inflation reports or the Fed’s interest-rate decisions, but any reaction is typically temporary. As always, it’s important to maintain a long-term perspective and make sound investment decisions based on your own financial goals, time horizon, and risk tolerance.

The FDIC insures CDs and bank savings accounts, which generally provide a fixed rate of return, up to $250,000 per depositor, per insured institution. The return and principal value of stocks and investment funds fluctuate with market conditions. Shares, when sold, may be worth more or less than their original cost. Investments offering the potential for higher rates of return also involve higher risk.

Investment funds are sold by prospectus. Please consider the fund’s objectives, risks, charges, and expenses carefully before investing. The prospectus, which contains this and other information about the investment company, can be obtained from your financial professional. Be sure to read the prospectus carefully before deciding whether to invest.

1–2) Federal Reserve, March 16, 2022

3) The Wall Street Journal, March 17, 2022

IMPORTANT DISCLOSURES FF Global Capital does not provide investment, tax, legal, or retirement advice or recommendations. The information presented here is not specific to any individual’s personal circumstances. To the extent that this material concerns tax matters, it is not intended or written to be used, and cannot be used, by a taxpayer for the purpose of avoiding penalties that may be imposed by law. Each taxpayer should seek independent advice from a tax professional based on his or her individual circumstances. These materials are provided for general information and educational purposes based upon publicly available information from sources believed to be reliable — we cannot assure the accuracy or completeness of these materials. The information in these materials may change at any time and without notice.

Prepared by Broadridge Investor Communication Solutions, Inc. Copyright 2022

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Managing Bond Risks When Interest Rates Rise

Posted on by Frank Fu
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Managing bond risks when interest rates rise

After dropping the benchmark federal funds rate to a rock-bottom range of 0%–0.25% early in the pandemic, the Federal Open Market Committee has begun raising the rate toward more typical historical levels in response to high inflation. At its March 2022 meeting, the Committee raised the funds rate to 0.25%–0.50% and projected the equivalent of six more quarter-percentage-point increases in 2022 and three or four more in 2023.1

Raising the federal funds rate places upward pressure on a wide range of interest rates, including the cost of borrowing through bond issues. Regardless of the rate environment, however, bonds are a mainstay for investors who want to generate income or dampen the effects of stock market volatility on their portfolios. You may have questions about how higher rates could affect your fixed-income investments and what you can do to help mitigate the effect in your portfolio.

Rate sensitivity

When interest rates rise, the value of existing bonds typically falls, because investors would prefer to buy new bonds with higher yields. In a rising rate environment, investors may be hesitant to tie up funds for a long period, so bonds with longer maturity dates are generally more sensitive to rate changes than shorter-dated bonds. Thus, one way to address interest-rate sensitivity in your portfolio is to hold short- and medium-term bonds. However, keep in mind that although these bonds may be less sensitive to rate changes, they will generally offer a lower yield than longer-term bonds.

A more specific measure of interest-rate sensitivity is called duration. A bond’s duration is derived from a complex calculation that includes the maturity date, the present value of principal and interest to be received in the future, and other factors. To estimate the impact of a rate change on a bond investment, multiply the duration by the expected percentage change in interest rates. For example, if interest rates rise by 1%, a bond or bond fund with a three-year duration might be expected to lose roughly 3% in value; one with a seven-year duration might fall by about 7%. Your investment professional or brokerage firm can provide information about the duration of your bond investments.

If two bonds have the same maturity, the bond with the higher yield will typically have a shorter duration. For this reason, U.S. Treasuries tend to be more rate sensitive than corporate bonds of similar maturities. Treasury securities, which are backed by the federal government as to the timely payment of principal and interest, are considered lower risk and thus can pay lower rates of interest than corporate bonds. A five-year Treasury bond has a duration of less than five years, reflecting income payments received prior to maturity. However, a five-year corporate bond with a higher yield has an even shorter duration.

When a bond is held to maturity, the bond owner would receive the face value and interest, unless the issuer defaults. However, bonds redeemed prior to maturity may be worth more or less than their original value. Thus, rising interest rates should not affect the return on a bond you hold to maturity, but may affect the price of a bond you want to sell on the secondary market before it reaches maturity.

Bond ladders

Owning a diversified mix of bond types and maturities can help reduce the level of risk in the fixed-income portion of your portfolio. One structured way to take this risk management approach is to construct a bond ladder, a portfolio of bonds with maturities that are spaced at regular intervals over a certain number of years. For example, a five-year ladder might have 20% of the bonds mature each year.

Bond ladders may vary in size and structure, and could include different types of bonds depending on an investor’s time horizon, risk tolerance, and goals. As bonds in the lowest rung of the ladder mature, the funds are often reinvested at the long end of the ladder. By doing so, investors may be able to increase their cash flow by capturing higher yields on new issues. A ladder might also be part of a withdrawal strategy in which the returned principal from maturing bonds provides retirement income. In the current situation, with rates projected to rise over a two- to three-year period, it might make sense to create a short bond ladder now and a longer ladder when rates appear to have stabilized. Keep in mind that the anticipated path of the federal funds rate is only a projection, based on current conditions, and may not come to pass. The actual direction of interest rates might change.

Laddering ETFs and UITs

Building a ladder with individual bonds provides certainty as long as the bonds are held to maturity, but it can be expensive. Individual bonds typically require a minimum purchase of at least $5,000 in face value, so creating a diversified bond ladder might require a sizable investment. Diversification is a method used to help manage investment risk; it does not guarantee a profit or protect against investment loss.


A similar approach involves laddering bond exchange-traded funds (ETFs) that have defined maturity dates. These funds, typically called target-maturity funds, generally hold many bonds that mature in the same year the ETF will liquidate and return assets to shareholders. Target maturity ETFs may enhance diversification and provide liquidity, but unlike individual bonds, the income payments and final distribution rate are not fully predictable.
Another option is to purchase unit investment trusts (UITs) with staggered termination dates. Bond-based UITs typically hold a varied portfolio of bonds with maturity dates that coincide with the trust termination date, at which point you could reinvest the proceeds as you wish. The UIT sponsor may offer investors the opportunity to roll over the proceeds to a new UIT, which typically incurs an additional sales charge.

Bond funds

Bond funds — mutual funds and ETFs composed mostly of bonds and other debt instruments — are subject to the same inflation, interest rate, and credit risks associated with their underlying bonds. Thus, falling bond prices due to rising rates can adversely affect a bond fund’s performance. Because longer-term bonds are generally more sensitive to rising rates, funds that hold short- or medium-term bonds may be more stable as rates increase.

Bond funds do not have set maturity dates (with the exception of the target maturity ETFs discussed above), because they typically hold bonds with varying maturities, and they can buy and sell bonds before they mature. So you might consider the fund’s duration, which takes into account the durations of the underlying bonds. The longer the duration, the more sensitive a fund is to changes in interest rates. You can usually find duration with other information about a bond fund. Although helpful as a general guideline, duration is best used when comparing funds with similar types of underlying bonds.

A fund’s sensitivity to interest rates is only one aspect of its value — fund performance can be driven by a variety of dynamics in the market and the broader economy. Moreover, as underlying bonds mature and are replaced by higher-yielding bonds in a rising interest rate environment, the fund’s yield and/or share value could potentially increase over the long term. Even in the short term, interest paid by the fund could help moderate any losses in share value.

It’s also important to remember that fund managers might respond differently if falling bond prices adversely affect a fund’s performance. Some might try to preserve the fund’s asset value at the expense of its yield by reducing interest payments. Others might emphasize preserving a fund’s yield at the expense of its asset value by investing in bonds of longer duration or lower credit quality that pay higher interest but carry greater risk. Information on a fund’s management, objectives, and flexibility in meeting those objectives is spelled out in the prospectus and also may be available with other fund information online.

The return and principal value of individual bonds, UIT units, and mutual fund and ETF shares fluctuate with changes in market conditions. Fund shares and UIT units, when sold, and bonds redeemed prior to maturity may be worth more or less than their original cost. ETFs typically have lower expense ratios than mutual funds, but you may pay a brokerage commission whenever you buy or sell ETFs, so your overall costs could be higher, especially if you trade frequently. Supply and demand for ETF shares may cause them to trade at a premium or a discount relative to the value of the underlying shares. UITs may carry additional risks, including the potential for a downturn in the financial condition of the issuers of the underlying securities. There may be tax consequences associated with the termination of the UIT and rolling over an investment into a successive UIT. There is no assurance that working with a financial professional will improve investment results.

1) Federal Reserve, March 16, 2022

IMPORTANT DISCLOSURES FF Global Capital does not provide investment, tax, legal, or retirement advice or recommendations. The information presented here is not specific to any individual’s personal circumstances. To the extent that this material concerns tax matters, it is not intended or written to be used, and cannot be used, by a taxpayer for the purpose of avoiding penalties that may be imposed by law. Each taxpayer should seek independent advice from a tax professional based on his or her individual circumstances. These materials are provided for general information and educational purposes based upon publicly available information from sources believed to be reliable — we cannot assure the accuracy or completeness of these materials. The information in these materials may change at any time and without notice.

Prepared by Broadridge Investor Communication Solutions, Inc. Copyright 2022

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Handling Market Volatility

Posted on by Frank Fu

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Handling market volatility

Conventional wisdom says that what goes up must come down. But even if you view market volatility as a normal occurrence, it can be tough to handle when your money is at stake. Though there’s no foolproof way to handle the ups and downs of the stock market, the following common-sense tips can help.

Don't put your eggs all in one basket

Diversifying your investment portfolio is one of the key tools for trying to manage market volatility. Because asset classes often perform differently under different market conditions, spreading your assets across a variety of investments such as stocks, bonds, and cash alternatives has the potential to help reduce your overall risk. Ideally, a decline in one type of asset will be balanced out by a gain in another, though diversification can’t eliminate the possibility of market loss.

One way to diversify your portfolio is through asset allocation. Asset allocation involves identifying the asset classes that are appropriate for you and allocating a certain percentage of your investment dollars to each class (e.g., 70% to stocks, 20% to bonds, 10% to cash alternatives). A worksheet or an interactive tool may suggest a model or sample allocation based on your investment objectives, risk tolerance level, and investment time horizon, but that shouldn’t be a substitute for expert advice.

Focus on the forest, not on the trees

As the market goes up and down, it’s easy to become too focused on day-to-day returns. Instead, keep your eyes on your long-term investing goals and your overall portfolio. Although only you can decide how much investment risk you can handle, if you still have years to invest, don’t overestimate the effect of short-term price fluctuations on your portfolio.

Look before you leap

When the market goes down and investment losses pile up, you may be tempted to pull out of the stock market altogether and look for less volatile investments. The modest returns that typically accompany low-risk investments may seem attractive when more risky investments are posting negative returns. But before you leap into a different investment strategy, make sure you’re doing it for the right reasons. How you choose to invest your money should be consistent with your goals and time horizon. For instance, putting a larger percentage of your investment dollars into vehicles that offer asset preservation and liquidity (the opportunity to easily access your funds) may be the right strategy for you if your investment goals are short term and you’ll need the money soon, or if you’re growing close to reaching a long-term goal such as retirement. But if you still have years to invest, keep in mind that stocks have historically outperformed stable-value investments over time, although past performance is no guarantee of future results. If you move most or all of your investment dollars into conservative investments, you’ve not only locked in any losses you might have, but you’ve also sacrificed the potential for higher returns. Investments seeking to achieve higher rates of return also involve a higher degree of risk.

Look for the silver lining

A down market, like every cloud, has a silver lining. The silver lining of a down market is the opportunity to buy shares of stock at lower prices. One of the ways you can do this is by using dollar-cost averaging. With dollar-cost averaging, you don’t try to “time the market” by buying shares at the moment when the price is lowest. In fact, you don’t worry about price at all. Instead, you invest a specific amount of money at regular intervals over time. When the price is higher, your investment dollars buy fewer shares of an investment, but when the price is lower, the same dollar amount will buy you more shares. A workplace savings plan, such as a 401(k) plan in which the same amount is deducted from each paycheck and invested through the plan, is one of the The right approach during all kinds of markets is to be realistic. Have a plan, stick with it, and strike a comfortable balance between risk and return. most well-known examples of dollar-cost averaging in action. For example, let’s say that you decided to invest $300 each month. As the illustration shows, your regular monthly investment of $300 bought more shares when the price was low and fewer shares when the price was high:

Although dollar-cost averaging can’t guarantee you a profit or avoid a loss, a regular fixed dollar investment may result in a lower average price per share over time, assuming you continue to invest through all types of market conditions.
(This hypothetical example is for illustrative purposes only and does not represent the performance of any particular investment. Actual results will vary.)

Making dollar-cost averaging work for you

• Get started as soon as possible. The longer you have to ride out the ups and downs of the market, the more opportunity you have to build a sizable investment account over time.

• Stick with it. Dollar-cost averaging is a long-term investment strategy. Make sure you have the financial resources and the discipline to invest continuously through all types of market conditions, regardless of price fluctuations.

• Take advantage of automatic deductions. Having your investment contributions deducted and invested automatically makes the process easy and convenient.

Don't stick your head in the sand

While focusing too much on short-term gains or losses is unwise, so is ignoring your investments. You should check your portfolio at least once a year — more frequently if the market is particularly volatile or when there have been significant changes in your life. You may need to rebalance your portfolio to bring it back in line with your investment goals and risk tolerance. Rebalancing involves selling some investments in order to buy others. Investors should keep in mind that selling investments could result in a tax liability. Don’t hesitate to get expert help if you need it to decide which investment options are right for you.

Don't count your chickens before they hatch

As the market recovers from a down cycle, elation quickly sets in. If the upswing lasts long enough, it’s easy to believe that investing in the stock market is a sure thing. But, of course, it never is. As many investors have learned the hard way, becoming overly optimistic about investing during the good times can be as detrimental as worrying too much during the bad times. The right approach during all kinds of markets is to be realistic. Have a plan, stick with it, and strike a comfortable balance between risk and return.

IMPORTANT DISCLOSURES FF Global Capital does not provide investment, tax, legal, or retirement advice or recommendations. The information presented here is not specific to any individual’s personal circumstances. To the extent that this material concerns tax matters, it is not intended or written to be used, and cannot be used, by a taxpayer for the purpose of avoiding penalties that may be imposed by law. Each taxpayer should seek independent advice from a tax professional based on his or her individual circumstances. These materials are provided for general information and educational purposes based upon publicly available information from sources believed to be reliable — we cannot assure the accuracy or completeness of these materials. The information in these materials may change at any time and without notice.

Prepared by Broadridge Investor Communication Solutions, Inc. Copyright 2022

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Eleven Ways to Help Yourself Stay Sane in a Crazy Market

Posted on by Frank Fu

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Eleven ways to help yourself stay sane in a crazy market

Keeping your cool can be hard to do when the market goes on one of its periodic roller-coaster rides. It’s useful to have strategies in place that prepare you both financially and psychologically to handle market volatility. Here are 11 ways to help keep yourself from making hasty decisions that could have a long-term impact on your ability to achieve your financial goals.

1. Have a game plan

Having predetermined guidelines that recognize the potential for turbulent times can help prevent emotion from dictating your decisions. For example, you might take a core-and-satellite approach, combining the use of buy-and-hold principles for the bulk of your portfolio with tactical investing based on a shorter-term market outlook. You also can use diversification to try to offset the risks of certain holdings with those of others. Diversification may not ensure a profit or protect against a loss, but it can help you understand and balance your risk in advance. And if you’re an active investor, a trading discipline can help you stick to a long-term strategy. For example, you might determine in advance that you will take profits when a security or index rises by a certain percentage, and buy when it has fallen by a set percentage.

2. Know what you own and why you own it

When the market goes off the tracks, knowing why you originally made a specific investment can help you evaluate whether your reasons still hold, regardless of what the overall market is doing.

Understanding how a specific holding fits in your portfolio also can help you consider whether a lower price might actually represent a buying opportunity.

And if you don’t understand why a security is in your portfolio, find out. That knowledge can be particularly important when the market goes south, especially if you’re considering replacing your current holding with another investment.

3. Remember that everything is relative

Most of the variance in the returns of different portfolios can generally be attributed to their asset allocations. If you’ve got a well-diversified portfolio that includes multiple asset classes, it could be useful to compare its overall performance to relevant benchmarks. If you find that your investments are performing in line with those benchmarks, that realization might help you feel better about your overall strategy. Even a diversified portfolio is no guarantee that you won’t suffer losses, of course. But diversification means that just because the S&P 500 might have dropped 10% or 20% doesn’t necessarily mean your overall portfolio is down by the same amount.

4. Tell yourself that this too shall pass

The financial markets are historically cyclical. Even if you wish you had sold at what turned out to be a market peak, or regret having sat out a buying opportunity, you may well get another chance at some point. Even if you’re considering changes, a volatile market can be an inopportune time to turn your portfolio inside out. A well-thought-out asset allocation is still the basis of good investment planning.

5. Be willing to learn from your mistakes

Anyone can look good during bull markets; smart investors are produced by the inevitable rough patches. Even the best investors aren’t right all the time. If an earlier choice now seems rash, sometimes the best strategy is to take a tax loss, learn from the experience, and apply the lesson to future decisions. Expert help can prepare you and your portfolio to both weather and take advantage of the market’s ups and downs. There is no assurance that working with a financial professional will improve investment results.

6. Consider playing defense

During volatile periods in the stock market, many investors re-examine their allocation to such defensive sectors as consumer staples or utilities (though like all stocks, those sectors involve their own risks and are not necessarily immune from overall market movements). Dividends also can help cushion the impact of price swings.

7. Stay on course by continuing to save

Even if the value of your holdings fluctuates, regularly adding to an account designed for a long-term goal may cushion the emotional impact of market swings. If losses are offset even in part by new savings, your bottom-line number might not be quite so discouraging.
If you’re using dollar-cost averaging — investing a specific amount regularly regardless of fluctuating price levels — you may be getting a bargain by buying when prices are down. However, dollar-cost averaging can’t guarantee a profit or protect against a loss. Also consider your ability to continue purchases through market slumps; systematic investing doesn’t work if you stop when prices are down. Finally, remember that the return and principal value of your investments will fluctuate with changes in market conditions, and shares may be worth more or less than their original cost when you sell them.

8. Use cash to help manage your mindset

Cash can be the financial equivalent of taking deep breaths to relax. It can enhance your ability to make thoughtful decisions instead of impulsive ones. If you’ve established an appropriate asset allocation, you should have resources on hand to prevent having to sell stocks to meet ordinary expenses or, if you’ve used leverage, a margin call. Having a cash cushion coupled with a disciplined investing strategy can change your perspective on market volatility. Knowing that you’re positioned to take advantage of a downturn by picking up bargains may increase your ability to be patient.

9. Remember your road map

Solid asset allocation is the basis of sound investing. One of the reasons a diversified portfolio is so important is that strong performance of some investments may help offset poor performance by others. Even with an appropriate asset allocation, some parts of a portfolio may struggle at any given time. Timing the market can be challenging under the best of circumstances; wildly volatile markets can magnify the impact of making a wrong decision just as the market is about to move in an unexpected direction, either up or down. Make sure your asset allocation is appropriate before making drastic changes.

10. Look in the rear-view mirror

If you’re investing long term, sometimes it helps to take a look back and see how far you’ve come. If your portfolio is down this year, it can be easy to forget any progress you may already have made over the years. Though past performance is no guarantee of future returns, of course, the stock market’s long-term direction has historically been up. With stocks, it’s important to remember that having an investing strategy is only half the battle; the other half is being able to stick to it. Even if you’re able to avoid losses by being out of the market, will you know when to get back in? If patience has helped you build a nest egg, it just might be useful now, too.

11. Take it easy

If you feel you need to make changes in your portfolio, there are ways to do so short of a total makeover. You could test the waters by redirecting a small percentage of one asset class to another. You could put any new money into investments you feel are well-positioned for the future, but leave the rest as is. You could set a stop-loss order to prevent an investment from falling below a certain level, or have an informal threshold below which you will not allow an investment to fall before selling. Even if you need or want to adjust your portfolio during a period of turmoil, those changes can — and probably should — happen in gradual steps. Taking gradual steps is one way to spread your risk over time, as well as over a variety of asset classes.

IMPORTANT DISCLOSURES FF Global Capital does not provide investment, tax, legal, or retirement advice or recommendations. The information presented here is not specific to any individual’s personal circumstances. To the extent that this material concerns tax matters, it is not intended or written to be used, and cannot be used, by a taxpayer for the purpose of avoiding penalties that may be imposed by law. Each taxpayer should seek independent advice from a tax professional based on his or her individual circumstances. These materials are provided for general information and educational purposes based upon publicly available information from sources believed to be reliable — we cannot assure the accuracy or completeness of these materials. The information in these materials may change at any time and without notice.

Prepared by Broadridge Investor Communication Solutions, Inc. Copyright 2022

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Retirement

•
September 22, 2022

If you choose to work after retirement, you should be aware of the effect it will have on your Social Security benefits.

New Cancellation for Federal Student Loans and Delayed Repayment to 2023

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September 15, 2022

The new plan will cancel $10,000 in federal student loan debt for individual borrowers whose income is below $125,000 in 2020 or 2021.

Inflation Reduction Act: What You Should Know

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September 7, 2022

The Inflation Reduction Act, signed into law on August 16, 2022, includes health-care and energy-related provisions, a new corporate alternative minimum tax, and an excise tax on certain corporate stock buybacks.

Is the U.S. Economy in a Recession?

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August 10, 2022

In an early July poll, 58% of Americans said they thought the U.S. economy was in a recession, up from 53% in June and 48% in May.

Top 30 Global Ideas for 2022

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July 5, 2022

In this note, we present our Top 30 Global Ideas for Q3 2022. This list remains one of high-conviction, long-term ideas, with quarterly updates that enable dynamic changes into names that we think offer higher- conviction upside potential.