But you’re definitely gambling because in a non indexed strategy, the company may pay you 3% to 5% per year, whereas you could get a 0% in any given year if the stock market goes down. Over the long run, the statistics show you’ll probably earn more interest in a index strategy than in a non indexed.
Participation Rates and Spreads
A few other popular ways to credit the indexes gains are based on participation rate (you might get 50% of the index’s earnings in a given time, for example), or a spread may apply. So there may be a 4% spread. Whatever the index gains, you’ll need to subtract the spread from the gains to calculate your interest.
My least favorite is monthly cap. With monthly cap, your potential for gain is usually very high, but would almost never happen in real life. Say you have a 2.5% monthly cap. If you hit the cap every month, you could make 30% in a year. But what they don’t like to point out is that while you are limited every month to a cap, there is no limit in the months the index decreases.
So say the index went up 30% in a year. Usually in a case like this, a lot of the gains are made in just a few months. The problem here is that the market goes up 15% over a course of 3 months, you only get your cap each month. So let’s say the index gained 2.5% in 9 of the 12 months in a year, but in the 3 down months, the index decreased 4%, 3%, and 6%. In this case, you would get 2.5% X 9 – 4 – 3 – 6 = 9.5%.
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