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How to Know if an Annuity Is Right for You

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

Annuities offer retirees one potential way of providing income in their golden years. But the world of annuities can feel confusing because of the vast array of options out there. It’s common for those nearing retirement not to know what annuities are and how they work.

But it’s important to understand the ins and outs of annuities to help you determine if one of these products would be a good addition to your retirement plan. Here’s what you need to know about annuities so you can figure out if they should be part of your retirement income strategy.

What are annuities?

An annuity is a product sold by an insurance company that creates an investment contract between the investor and the insurer. In exchange for a lump sum from the investor, the insurance company provides guaranteed payments to the investor for either a fixed period or for the investor’s lifetime. As for the lump sum, the insurer invests that money and then shares some of the investment growth with you through your guaranteed payments.

You can purchase an annuity through any number of insurance companies. While most annuities are purchased with a lump sum (known as single premium), you can also purchase annuities over a period of time by paying in installments. This is known as a flexible premium.

The timeframe for receiving your payment from the insurer can either be immediate or deferred. Here’s how each one works.

Immediate annuities

Just like it sounds, immediate annuities offer you regular, guaranteed payments immediately after you make your initial lump sum purchase. Since there is no time for an immediate annuity to grow, these products generally cost more than deferred annuities to get the same monthly payment.

Deferred annuities

If your payments are deferred, there is time to allow your initial investment to grow, making these kinds of annuities less expensive to purchase. The time between your initial investment and when you begin withdrawing money is called the surrender period. If you try to take money out of your deferred annuity before the end of the surrender period, you will face hefty fees known as surrender charges.

With a deferred annuity, once you have finished the surrender period, there are multiple ways to access the money. You can withdraw the original lump sum (plus any interest you have earned), receive regular payments for a set period or life, or take systematic withdrawals when you need them until you have emptied the fund.

Types of annuities

Within the basic framework outline above, there are different types of annuities with different benefits and drawbacks. Here are three of the most common types.

Fixed annuities

This type of annuity promises a specific, guaranteed interest rate for your investment. The rate is set by the insurer. While it is possible that your money will earn more than the guaranteed rate, it will never earn less.

The catch with fixed annuities is that the insurer needs to make certain it will earn more interest than it will pay you, which means the guaranteed interest rate is likely to be relatively low. Putting your money in a fixed annuity may guarantee you payment, but it is unlikely to do better than (or even as well as) more traditional investments.

Variable annuities

With variable annuities, there is no guaranteed interest rate for the investment. However, variable annuities earn returns based on their underlying investment portfolios. As the investor, you get to choose which investment portfolio (known as a sub-account) you want for your variable annuity. If the investment does well, you receive the bump up in interest that you would miss if you had a fixed annuity. On the other hand, if the investment does poorly, you will also experience the downturn that a fixed annuity would have shielded you from.

Indexed annuities

Another version of a variable annuity is an indexed annuity, which ties the investment’s performance to a specific index, such as the S&P 500. Since the annuity is tied to an index that theoretically follows the market’s performance as a whole, this product potentially offers investors the upside of a variable annuity with the peace-of-mind of a fixed annuity.

Indexed annuities are not without pitfalls, however. To begin with, insurers place interest caps on their indexed annuities, which state the maximum amount of interest you can earn even if the underlying investment does much better than the cap.

In addition, the insurer may set a “participation rate,” where it decides the percentage of the index’s return that it will credit to the annuity. For instance, if the index goes up 8% and the indexed annuity has an 80% participation rate, your investment will only earn 80% of the 8% gains — or 6.4%.

Why you might choose an annuity

Though annuity products can be quite complex, there are a number of reasons why a savvy investor may choose to make an annuity part of their retirement plan.

  • Guaranteed, predictable income for life: If you would like to continue to get what amounts to a paycheck in retirement, an annuity could be a helpful way to structure your retirement income. This is particularly helpful for those who know that they can budget a predictable and regular income, but might struggle if they had access to more than a month’s worth of money at a time. Since annuities can offer lifetime payouts, this kind of predictable income will always be there.
  • Protection from stock market fluctuations: Depending on what type of annuity you choose, you can feel confident that your money will not take a hit in a market downturn. If you feel overwhelmed or panicked by market fluctuations, an annuity can offer you a great deal of peace of mind.
  • Life insurance benefits without underwriting: If you’re not in perfect health but want to provide a life insurance payout to your spouse, an annuity can be a good option. There is no health underwriting for an annuity and you can designate your spouse as the beneficiary of your annuity, which means the payments transfer to him or her upon your death. There may also be some additional riders that you can add to your annuity to increase the payment at your death. This makes an annuity a reasonable substitute if you are unable to qualify for life insurance.
  • Long-term care protection: Purchasing a long-term care rider for your annuity can offer you a financial safety net in case you need long-term care. This can be a more affordable option than long-term care insurance.

Why you might not want an annuity

Despite the benefits, annuities do come with their fair share of pitfalls. Here are some of the reasons why you may not want an annuity to be part of your retirement income plan:

  • Illiquid investment: The biggest downside to an annuity is the fact that your money is tied up in it once you have purchased it. There is no way to access your funds without paying a painful fee.
  • High fees: The fee structures for annuities can be complex, expensive and less-than-transparent. The fees for variable annuities tend to be significantly higher than fees for similar investments that are not annuities, and the surrender charges you pay for accessing your money early can be prohibitive.
  • Commission sales: In many cases, insurance agents selling annuities receive commissions for their sales, incentivizing them to sell you more expensive products than you may need.
  • High level of complexity: While the simplest annuities are easy to understand, annuities can get incredibly complex and difficult to understand. While some retirees are happy to do the necessary work to understand the specifics of any one annuity product, others are turned off by the complexity and would prefer to put their money in something that does not require a flowchart to understand.

Bottom line

Annuities are not the right product for everyone. Retirees who need the security of a guaranteed regular payment, protection from long-term care costs or who are unable to get life insurance may want to consider an annuity to cover their needs.

However, anyone considering an annuity needs to be fully aware of the potential costs, complexity and risks of putting their money into an illiquid, complex investment. Make sure you know what you will pay in fees and how your specific annuity would work before you sign on the dotted line.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

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Investing

Understanding Binary Options

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone and is not intended to be a source of investment advice. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

Binary options are a simplified form of options trading. Options trading can be a little difficult to understand, but essentially when you trade options, you are buying or selling contracts that give you the right, or the obligation, to make certain asset trades in the future. Binary options remove much of this complexity, allowing you to bet on whether the value of an asset will be higher or lower than a target price by a given deadline. Simple, right? Let’s take a closer look at how binary options work and whether they make sense for your trading strategy.

What are binary options?

Binary options — like all options — are a financial instrument based on the value of an underlying asset. This underlying asset can be a stock, a bond, a currency exchange rate or the price of gold. When you buy or sell binary options, you’re making a bet about the future price of the underlying asset.

Let’s say the price of gold right now is $1,450 an ounce, and you think it will be higher than $1,500 by the end of the week. You could buy a binary option with a strike price of $1,500 and a deadline of Friday at 5:00 p.m. If the price ends up higher than $1,500 on Friday at 5:00 p.m., you would make money. If the price ends up at $1,500 or lower, you lose money.

How are binary options priced?

Binary options are priced between $0 and $100. Their value is based on how likely the underlying asset will be above the strike price by the option deadline. If the actual value of the asset is above the strike price at the deadline, then the option is worth $100. If it’s below the price, then the option is worth $0.

Before the deadline, the value of the option will fluctuate between $0 and $100, depending on how likely the final result looks. If it looks very likely that the final price will be above the strike price, then the option price will be closer to $100. If it looks unlikely, the price will fall closer to zero. If you own a binary option and want to get out before the expiration date, you can sell the contract to another investor at the current market price.

How do you buy and sell binary options?

When it comes to trading binary options, you can be either a buyer or a seller. Let’s go back to the example of gold going up to a value of $1,500. Imagine that the option currently trades at $45 — that means you’d pay $45 to bet that the price will end up higher than $1,500 by the deadline. If the price ends up higher, you’ll receive $100, giving you a profit of $55 (100 – 45 = 55.) If the price ends up at or below $1,500, your option value falls to $0, meaning that you’d lose your $45 investment.

On the other hand, if you think the price of gold will not be above $1,500, you could take the opposite position by selling the $45 option to another investor. This person would give you the money upfront, and if the price ends up below $1,500, you keep the $45 profit. If the price ends up above $1,500, you need to pay the option buyer $100, so your loss is $55.

Where can you trade binary options?

Since binary options are a newer, more specialized type of investment, you won’t find them with just any online stock broker. One way to make these investments is through the North American Derivatives Exchange (Nadex). This exchange is supervised by the Commodity Futures Trading Commission, a government regulatory agency.

There are other online websites that allow binary option trading, such as Binary.com and IQ Option. But Braden Perry, a former enforcement attorney at the Commodity Futures Trading Commission (CFTC), warns you have to be careful.

“Many internet-based platforms have surged into the market, and with that surge, the opportunity for fraudulent promotional schemes, overstatement of returns, and the failure to pay out for the wins have increased,” said Perry. “Furthermore, some actors are using manipulative software to rig the system, so winning bids end up losing.”

As he recommends, before opening an account with a website, you should check their registration and disciplinary history through BrokerCheck or the Background Affiliation Status Information Center, two databases run by regulatory agencies. You could also perform web searches to determine if your potential broker has been accused of wrongdoing.

What are the fees for trading binary options?

The fees for trading binary options depend on the broker or trading platform. They may charge a flat transaction cost, like $1 for each contract that you buy or sell. They might also charge a fee when they pay out the $100 earnings at a contract’s expiration deadline, known as a settlement fee. Once again this could be $1 per contract, charged to the investor who made the correct bet on the option.

Another way brokers can make money is by using a bid-ask spread, which means the price to buy an option is higher than the price to sell an option. For example, it costs $45 to buy but you would only receive $43 by selling. The $2 difference goes to the broker or the trading platform.

Finally, the broker/platform could charge additional miscellaneous fees for other actions, such as setting up your account or processing withdrawals.

Advantages of binary options

  • Simple to understand: Binary options are pretty straightforward compared to other options trading strategies — either your price prediction comes true and you make money, or it doesn’t and you lose money.
  • Fixed risk: Going into each trade, you can calculate exactly what your loss would be in the event that your prediction was wrong. With some other trading strategies, like short selling a stock, your possible loss is potentially unlimited; with binary options, it’s a fixed risk.
  • Higher potential returns: Investing is generally a tradeoff between risk and return, where higher risk investments tend to have a higher potential return. Since binary options can be relatively risky, they are also potentially lucrative. Due to the higher risk the typical returns on investments are much higher than foreign exchange trading — typically 60% to 90%, compared to 10% for forex.

Downsides of binary options

  • High risk: With the “all-or-nothing” payout system, you can lose money very quickly when trading binary options if your predictions turn out badly. This simplicity may be a downside for new investors, who could lose a lot of money through inexperience.
  • Bad market actors: You need to be careful about which trading platform you use. Binary options are a relatively new investment and still not regulated as closely as more established markets, so the opportunity for fraud can be higher.
  • Broker limitations: There could be limits on how much you can invest per trade. Only some brokers allow big investments, restricting them to clients with large balances. If you want to make larger investments, you may need to sign up with multiple platforms as you could go over the maximum limit on just one.

Who should trade binary options?

Binary options are a better fit for investors with a high-risk tolerance, those more willing to lose money in the short-term in exchange for making a larger profit in the future. If you’re scared about the idea of short-term losses, binary options are likely not a good fit.

In addition, you need to be willing to put in lots of research for your binary option trading decisions. You are competing against other investors, including Wall Street professionals, who are only accepting your buy/sell moves because they bet the opposite will happen and they’ll make money off you. It’s a tough market and takes hard work to make a profit.

Even if binary options sound like a good fit for your personality, Nicholas Hofer, a CFP® and President of Boston Family Advisors, still believes you should think twice before getting started: “I wouldn’t recommend this strategy for traditional investors as it’s more like gambling.”

He thinks binary options are a misuse of what options should be used for, as a hedge against risk and losses. “Unfortunately,” he noted, “‘hedging’ is now often viewed as a way to generate alpha [above market returns] rather than a way to reduce risk.”

Learn more about binary options

If you’d like more help to learn about binary options, there are online courses and bootcamps that can give you trading strategies and tips. You could also hire a financial advisor to help set up your options trading account and give you recommendations for trades.

The complicated part is not understanding how binary options work, but rather how to make good predictions. That means studying up on market trends, closely following financial news and learning everything you can about potential trades so you can make better predictions than the average investor.

If you do decide to move forward with trading binary options, make sure to do so responsibly — only invest money you can afford to lose. With research and some luck, you can make money quickly through binary options. But if you aren’t careful, you can lose it just as fast.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

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Investing

Wealthfront Review 2020

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone and is not intended to be a source of investment advice. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

Wealthfront is a robo-advisor for beginner investors who don’t have the time or money to devote to hands-on investing but who still want to save for the future. Wealthfront’s automated platform designs a portfolio of low-cost, exchange-traded funds (ETFs) that maximizes your returns while honoring your own level of risk tolerance. And with a minimum investment requirement of only $500, there’s a low threshold for entry.

Wealthfront also guides your financial planning. It examines where you are now, helps you set goals and ensures you stay on track to hit your investing objectives. Additional key features include automatic rebalancing and tax-loss harvesting, plus college savings plans.

Wealthfront
Visit WealthfrontSecuredon Wealthfront’s secure site
The bottom line: Wealthfront is an easy-to-use robo-advisor for novice investors.

  • Low fees, automatic portfolio rebalancing and tax-loss harvesting.
  • Save for retirement and college in one place.
  • Free financial planning.

Who should consider Wealthfront?

Wealthfront is a good option for beginners who know they should be investing for the long term but aren’t looking for in-depth portfolio customization. This robo-advisor doesn’t allow its clients to choose the assets that make up their portfolio until they reach an account balance of $100,000. It’s also a good choice for investors looking for a robust tax-loss harvesting strategy, and anyone looking to save for education expenses, since it offers a 529 plan.

The site is also a good checkpoint for anyone seeking basic financial planning, since Wealthfront offers free financial guidance on retirement, college savings, home purchases and the decision to take time off to travel. This is not, however, the robo-advisor for someone who wants access to a human advisor or anyone who’s interested in a socially responsible investing portfolio.

Wealthfront fees and features

Amount minimum to open account
  • $500
Management fees
  • 0.25% annual advisory fee on investments
Account fees (annual, transfer, inactivity)
  • $0 annual fee
  • $0 full account transfer fee
  • $0 partial account transfer fee
  • $0 inactivity fee
Account types
  • Individual taxable
  • Traditional IRA
  • Roth IRA
  • 529 Plan
  • Joint taxable
  • Rollover IRA
  • Rollover Roth IRA
  • SEP IRA
  • SIMPLE IRA (Savings Incentive Match Plan for Employees)
  • Trust
Portfolio
  • Wealthfront offers 12 asset classes
Automatic rebalancing
Tax loss harvesting
Tax loss harvesting detailWealthfront offers daily tax loss harvesting for taxable accounts for no additional charge.
Offers fractional shares
Ease of use
Mobile appiOS, Android
Customer supportPhone , 24/7 live support, Email

How does Wealthfront invest your money?

Wealthfront uses Modern Portfolio Theory (MPT) to choose a portfolio for you with the maximum expected return for your chosen level of risk. The site uses software to design a diversified mix of investments across “relatively uncorrelated asset classes,” based on your risk selection. The strategy seeks to maximize long-term returns. Each of Wealthfront’s asset classes is represented by a low-cost, passive ETF.

Wealthfront’s investment team currently utilizes the following asset classes:

  • U.S. stocks
  • Foreign developed market stocks
  • Emerging market stocks
  • Dividend growth stocks
  • U.S. government bonds
  • Corporate bonds
  • Emerging market bonds
  • Municipal bonds
  • Treasury inflation-protected securities (TIPS)
  • Real estate
  • Natural resources

Wealthfront builds your portfolio from ETFs that minimize cost and tracking error, offer enough market liquidity and minimize the lending of their underlying securities. To ensure adequate diversification, no asset class can contain more than 35% of your total allocation. Based on your risk score, Wealthfront assigns portfolios with target annualized volatility ranging from 5.5% to 15.0%.

The platform uses software to monitor and periodically rebalance your investments, while also taking care to minimize any tax impact. Its rules-based strategies aim to deliver more value than buying and holding an index fund:

  • Tax-loss harvesting: Designed to reduce your tax bill by capturing investment losses after market movements.
  • Stock-level tax-loss harvesting: Once your account reaches $100,000, Wealthfront captures losses on individual stocks within an index.
  • Risk parity: Aims to increase your risk-adjusted returns through an enhanced asset allocation strategy. Customers must have $100,000 to activate this strategy.
  • Smart beta: designed to boost your expected return by weighting the stocks in your portfolio more intelligently. Available to clients with $500,000 or more in their account.

Note that Wealthfront’s risk parity strategy comprises a separate investing methodology than its standard model, and clients must opt in. It allocates capital across multiple asset classes, also known as mean-variance optimization. Applying the Risk Parity model complicates tax-loss harvesting and limits the ability to borrow against the portfolio value for other purposes, so Wealthfront limits participation to 20% of larger accounts.

Financial planning features

Wealthfront offers free, automated financial planning features. There’s no phone call — customers link their other financial accounts to Wealthfront, which then analyses them for you and offers advice. The more you link, the better view the automated platform has of your financial life, and the better the advice it can provide. You can explore various scenarios to see how they might affect your end goals, and update your plans accordingly. Bonus: You don’t have to have a Wealthfront account to use this feature.

This mobile and desktop tool — the Path — offers advice about retirement, buying a home, covering college costs and even the equation of whether you can take time off to travel:

  • Retirement: Wealthfront will show you how your retirement picture changes depending on your savings level, choosing a different retirement age or adjusting other near-term goals.
  • Buying a home: Wealthfront uses your location, net worth, credit score and debt-to-income ratio to estimate the mortgage you’d qualify for and suggest what you can afford to purchase. By changing variables like your timing, location and home size, you can see how the advice adjusts.
  • Covering college costs: Once you choose a college for your child (Harvard aspirations?), Wealthfront uses Postsecondary Education Data System data to project the total cost you can expect to pay, even factoring in estimated financial aid. Then the system will suggest a realistic monthly savings goal.
  • Time off to travel: Wealthfront’s engine will help you determine how you can comfortably take time off to travel while staying on track for financial goals by doing things like working remotely, subletting your home or varying the details of your trip to affect the cost.

Wealthfront Cash Account

The Wealthfront Cash Account is a high-yield savings account that earns 1.78% APY. It’s a competitive interest rate in the field of online savings accounts, but it’s not as accessible as many competing cash management accounts. There is no option to withdraw funds or make payments from the account via check or ATM card (although the site states that debit cards are coming soon) — you can only get money into and out of the account via ACH transfer to and from a separate checking account. Transfers take one to three business days.

Funds saved in the Wealthfront Cash Account are swept into multiple accounts at partner banks. The partner banks provide FDIC insurance coverage up to $1 million on the funds (or $2 million if you have a joint account).

Despite the strong interest rate, other robo-advisor cash management accounts offer more perks. The Betterment Everyday Cash Reserve account offers a two-way sweep feature that automatically optimizes your account balance based on your spending patterns. SoFi Money pays slightly less interest, but the account comes with debit card access so you can use it to make purchases and withdraw money from ATMs.

Strengths of Wealthfront

  • Low fees: Wealthfront charges just 0.25% for digital portfolio management, which is competitive. That means if you have $10,000 invested, you’ll pay about $25 per year in fees. Wealthfront’s underlying investments are also low-cost ETFs with expense ratios ranging from 0.03% to 0.13%. That said, Betterment also charges 0.25% for portfolio management, and SoFi offers the service for free.
  • Low-cost 529 plan: Wealthfront offers a 529 college savings account with fees ranging from 0.42% to 0.46% per year, making it one of the lowest cost advisor-sold 529 plans.
  • Continuous rebalancing. Wealthfront has no schedule for rebalancing, it monitors your portfolio and rebalances as your allocations drift from their original target mix.
  • Free financial planning help. You can link your other financial accounts to Wealthfront, giving you an overall picture of your finances in one spot. The platform offers targeted automated advice on retirement, college savings, buying a home or taking time off to travel, based on your financial info, which may be just enough help for the novice saver.
  • Robust tax-loss harvesting: Wealthfront offers tax-loss harvesting for all clients — and stock-level tax-loss harvesting for larger accounts — using losses to offset ordinary income or investment gains to minimize your overall tax bill. In a taxable account, this can make a big difference. Not all competing robo-advisors offer this service for no additional charge.

Drawbacks of Wealthfront

  • No human advisors: While you can talk to a professional about your investment account, and Wealthfront offers only automated advice on life goals like retirement and college savings. If you would prefer a human to talk you through your options, Wealthfront may not be your first choice. For slightly higher fees, you can get access to digital portfolio management and human advisors, such as with Vanguard Personal Advisor Services (charging 0.30%) or Betterment’s Premium plan ( 0.40%).
  • No fractional shares. The ability to purchase fractional shares minimizes the amount of uninvested cash is sitting in your account, optimizing your long-term returns. Wealthfront doesn’t offer fractional shares, while Betterment and SoFi both do.
  • Minimum investment: Wealthfront’s minimum of $500 isn’t steep, but it’s not $0, which is the minimum investment for Betterment , SoFi and Ellevest. If you don’t yet have $500 to throw at your investing future, you may want to start with another platform.
  • No socially responsible investing portfolio. Many robo-advisors offer the option to invest in a socially conscious portfolio. Wealthfront only offers the ability to exclude companies you don’t wish to invest in once your account is large enough for Stock-Level Tax-Loss Harvesting ($100,000) or Smart Beta ($500,000). Investors interested in SRI should look toward Betterment or Wealthsimple, which offer SRI portfolio options.

Is Wealthfront safe?

Though no investment is guaranteed as “safe,” Wealthfront focuses on investing in ETFs, index funds that are widely considered to be low risk, even for the most conservative investors.

Wealthfront is also a member of SIPC, insuring your securities up to $500,000 for each account, and Wealthfront’s cash account is protected with FDIC insurance. They don’t have any complaints under the Consumer Financial Protection Bureau and have $20 billion in assets under management. View Wealthfront on FINRA BrokerCheck.

Wealthfront review: Final thoughts

Starting out in investing can be overwhelming, and it can be hard to know where to begin. If you have $500 to invest, Wealthfront will jump-start the process for you, diversifying your portfolio and minimizing expenses and taxes. The robo offers robust tax-loss harvesting and rebalancing features. There is no SRI portfolio for socially-conscious investors, but there are college savings options, so you’ll have to decide what’s important to you.

The lack of a human advisor isn’t for everyone, but you still get easy-to-manage tools, including financial planning advice on big life goals. You can trust that your money will be secure, and this robo-advisor will do all the work for you.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.