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In Part 1, we reviewed a number of variable annuities and saw the range of historical returns for portfolios made possible by the funds the product supports. There was an insightful comment from the last article that provides valuable insight into operating variably annuity products.

In this article, we are going to look at the top and bottom performers and see how they fare against an ETF portfolio.

Schwab Select Annuity's plan consists of 58 funds. These funds enable participants to gain exposure to 5 major assets: US Equity, Foreign Equity, REITs, Emerging Market Equity, Fixed Income.

IMPORTANT NOTE: because MyPlanIQ does not have Fidelity VIP fund data, all of these funds are substituted by their Fidelity Advisor equivalents. We believe the Fidelity Advisor funds should closely track their VIP fund correspondents.

Merrill Lynch IRA Annuity plan consists of 39 funds. These funds enable participants to gain exposure to 3 major assets: US Equity, Foreign Equity, Fixed Income. The list of minor asset classes covered:

Asset Class Schwab Select Annuity Merrill Lynch IRA Annuity
U.S. Equity Excluding Company Stock 43 31
International Equity 4 4
Emerging Markets 2
Real Estate Trusts 1
Fixed Income Including Money Market 6 4
Sector Funds 2

The Schwab funds are heavily weighted towards US equities but backed up with strong choices in fixed income and funds available in three other classes. It would be slightly improved with more choices in emerging markets and real estate trusts.

The Merrill funds are heavily weighted towards US equities, but backed up with some choices in fixed income and international equity classes. It would be improved with more asset classes such as emerging markets and real estate trusts.

Plan Rating Attribute Schwab Merrill Lynch
Diversification 90% 19%
Fund Quality 70% 52%
Portfolio Building 96% 26%
Overall Rating 86% 32%

As the Schwab funds have four asset classes, higher quality and a better ability to build a portfolio, we would expect higher returns.

Performance chart (as of Nov 4, 2010)

click to enlarge

Performance table (as of Nov 4, 2010)

Portfolio Name 1Yr AR 1Yr Sharpe 3Yr AR 3Yr Sharpe 5Yr AR 5Yr Sharpe
Schwab Select Annuity Tactical Asset Allocation Moderate 23% 172% 10% 88% 16% 126%
Schwab Select Annuity Strategic Asset Allocation Moderate 19% 180% 4% 21% 8% 48%
MERRILL LYNCH IRA ANNUITY Tactical Asset Allocation Moderate 7% 62% 3% 27% 8% 68%
MERRILL LYNCH IRA ANNUITY Strategic Asset Allocation Moderate 14% 124% 1% 4% 6% 38%

Performance chart (as of Nov 5, 2010)

Performance table (as of Nov 5, 2010)

Portfolio Name 1Yr AR 1Yr Sharpe 3Yr AR 3Yr Sharpe 5Yr AR 5Yr Sharpe
Schwab Select Annuity Tactical Asset Allocation Moderate 20% 163% 11% 111% 15% 135%
Schwab Select Annuity Strategic Asset Allocation Moderate 18% 182% 5% 29% 8% 54%
Five Core Asset Index ETF Funds Tactical Asset Allocation Moderate 15% 107% 8% 57% 16% 107%
Five Core Asset Index ETF Funds Strategic Asset Allocation Moderate 19% 146% 4% 16% 10% 42%

Performance chart (as of Nov 5, 2010)

Performance table (as of Nov 5, 2010)

Portfolio Name 1Yr AR 1Yr Sharpe 3Yr AR 3Yr Sharpe 5Yr AR 5Yr Sharpe
MERRILL LYNCH IRA ANNUITY Tactical Asset Allocation Moderate 5% 48% 3% 30% 7% 68%
MERRILL LYNCH IRA ANNUITY Strategic Asset Allocation Moderate 13% 113% 1% 5% 6% 38%
Five Core Asset Index ETF Funds Tactical Asset Allocation Moderate 15% 107% 8% 57% 16% 107%
Five Core Asset Index ETF Funds Strategic Asset Allocation Moderate 19% 146% 4% 16% 10% 42%

We can now compare the results graphically:

The five ASSET ETF SIB generates the best returns in all cases. The benefit of low cost portfolios means more money to the investor. Also note that these results do not include the fees charged by the Annuity provider as they vary depending on what features have been activated in the product.

The plan rating for the Annuity products have been previously reviewed and, at first glance, it is surprising that the Five Asset SIB has such a low rating -- the reason is that many of the funds are younger than those in the annuity products and so they have a lower quality score.

ETFs are expected to be a mainstream investment platform for the long term, but they don't have the established history of Mutual Funds.

When we compare the results and the plan rating in a "normalized" form, we can see that with the exception of the SIB's rating being misleadingly low, the plan rating can give an indication of the returns possible with a range of funds.

Having reviewed a range of Variable Annuity products and measured them against a simple ETF portfolio, we can make the following conclusions:

  • Annuities are complex products and there are many parameters to the features and fees they offer
  • Ensuring the best returns from the sub-accounts delivers money in your pocket. They are not always easy to understand but worth taking the time to get to know
  • ETF plans continue to offer strong performance at a low cost and should be carefully considered as an alternative before moving forward with an Annuity.

Disclosure: No positions

Source: Variable Annuities vs. ETF Portfolios, Part 2