Why you should consider life insurance as an asset, not a contingency plan
People often have questions about how to manage money. Generally, the answers given are: “Buy low, sell high,” “Don’t put all your eggs in one basket,” and “Timing is everything.” These and other catchphrases have been quoted and proved regularly over the past 30-plus years. But today’s new normal includes two new challenges for investors who wish to increase the return on their portfolios: The current low interest rates and more rapid and frequent market stressors.
The idea of using life insurance inside your portfolio is a concept that’s gaining attention. Permanent life insurance has always been an exceptional estate planning tool and can also be used as an alternative asset class to provide more return with less risk to your portfolio.
So what does it all mean? You have money and follow the market closely – or not – and want to earn good returns without any losses. Is that possible? Does any adviser, over time, really know how to win, at least modestly, and not lose? What are the best asset allocations for each set of economic conditions? For investors who are at an older age, portfolio stability is especially important.
“Modern portfolio theory” is that a prudent investment portfolio is one that balances risk and return. The theory quantifies this risk-return balance by diversification, which calculates the expected return of a portfolio by the weighted average of the various constituent assets. The whole portfolio risk is a function of the risk of each individual asset class and the likelihood that asset returns will move together — in other words, their correlation. The relationship between portfolio risk and correlation allows the reduction of overall risk by holding combinations of assets whose returns are not expected to move in sync.
How does life insurance fit in and contribute to better returns with less risk? Conventional thinking about life insurance is a trap many people fall into. Preconceived notions of life insurance have resulted in countless investors thinking that it cannot compare with stock and bond risks and returns. They think of life insurance only in terms of family income replacement, business buy-sell arrangements and estate planning tools.
Life insurance pays at death, which is inevitable, but there is no definite idea of when that date will occur. Actuarial studies only apply to large, impersonal groups — not to individuals. The timeline could be long or short, depending on the person. In comparison, stocks’ and bonds’ internal rate of return calculations are a means of measuring returns against the amount of time it takes to earn them. Stocks and bonds need time to meet the predictions and reach their potential rate of return after X number of years. And when time is irrelevant, so are the calculated returns.
Life insurance, however, makes its full promised return available on the first day of the policy. All things considered, you cannot be realistic about managing all your money wisely without considering life insurance. The returns of life insurance are predetermined. Not so with stocks and bonds.
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