The act of removing funds from one’s savings plan, bank account, pension or trust is referred to as withdrawal. It can occur over a period of time in fixed, variable or lump sum amounts. There are cases wherein a few conditions must be met to withdraw funds. If a withdrawal is made without these conditions met, penalties might follow.
The savings and loan (SL) crisis were a financial tragedy leading to the collapse of a significant bank. The crisis of the 1980s and 1990s, the nation's savings and loan (SL) industry faced distraught due to the rise in inflation and interest rate. The federal government set the interest rates on the deposits at a lower value what could be earned elsewhere, leading to the withdrawal of deposit from SL. Also, the rising interest rate, the long-term fixed-rate mortgages of SLs lost a substantial amount of value, which lead to wiping out of the SL industry's net worth. This crisis has led to the ~32% failure of the US SL associations out of 3,234 during the period 1986 to 1995.
What is Annuity & its fundamentals? Annuity, a contract meant for long term duration, is issued & sold by a life insurance company. The insurance company makes the payment in a fixed stream to retirees upon annuitization, which is generally an income to the latter. The annuities are designed to underpin the growth of retirement income and are funded by individuals. In case of a deferred annuity, where payments begin after a certain duration, there is an accumulation phase which is the time period when an annuity is being accumulated before the fund payouts to the individuals begin. When the payments start, the contract is said to have entered an annuitization phase. In case of an immediate annuity, payments begin immediately in the annuitization phase, and there is no accumulation phase. The life insurance company after accumulating funds from individuals generally invests in mutual funds to get profit from their investments. What is the Purpose of Buying Annuities? As a part of retirement income planning, the annuities are relied upon to get a regular income through a steady cash flow in the retirement phase. The investors can take the payments either as a lump-sum amount or get paid periodically. The payment to the annuitant is done either for a fixed period or for the annuitant's remaining lifetime. On the other hand, making the corpus of fund for retirement is not easy, as one has to find out how much an individual needs to save to retire. This is where the real financial planning begins. There are a number of retirement savings options available to an individual, tailored to specific needs. For example, investment can be made through the employer in the form of an annuity or super funds or pension plan. Meanwhile, some market players in favor of income strategy also consider exposure to dividend stocks for beefing retirement investment portfolio. What is the difference between Annuities and Pension? While both annuities and pension are common sources of retirement income, it is important to understand the difference between the two. Though annuities are purchased from insurance companies via the signing of the contract, the pension is generally a kind of retirement account offered by companies to their employees. Individuals buy an annuity scheme from life insurance companies to get a guaranteed regular/lump sum income after retirement, whereas people save from the amount earned to make a pension pot throughout the life when they are earning. While pension benefits are availed post the retirement, financial benefits of annuities do not necessarily require the person to retire. ALSO READ: Retire from Work, Not From Life: Superannuation And Age Pension What is the difference between Annuities and Insurance? While both annuities and insurance plans are essential components of long-term financial planning, some differences between the two deserve closer attention. Notably, annuities can be purchased without a medical need, unlike insurance. Looking a payment flows, annuities dole out funds to the owner when the annuitization period begins as per the contract. While, insurance schemes provide income streams to dependent in case of the owner’s death, unless the policy is surrendered. What are the different types of Annuities? There are various types of annuities, and the exact payment structure of each individual will depend upon the terms that the individual had agreed with the insurance company. Annuities can be structured into different kinds of instruments, that includes fixed, variable & indexed with the options of immediate or deferred income, that gives the investors flexibility to get their payments as annuities in different forms. Fixed annuity provides the guarantee of a minimum rate of interest on the money invested by an individual and also offers a fixed number of payments that will be received from the insurance company. Variable annuity gives the individuals an option to invest the money in different types of securities as the mutual funds do. The payments an individual will receive in the form of annuities will depend on the performance of the funds. Indexed annuity combines the benefits of both fixed and variable products. The returns on investment an individual will get from an indexed annuity are not dependent on individual’s investment decision but will depend on the performance of stock market indices like the S&P 500, where the fund manager invests in the stocks of the index in the same weightage. An investor in all the three annuity types, has an option of choosing an immediate annuity or a deferred annuity. In an immediate annuity, the individuals deposit the insurance company with a lump sum and can immediately start receiving the annuities. In a deferred annuity, the individuals pay a lump sum or a series of payments but will not start getting payouts as annuities until a specified period. This gives the individual’s money an opportunity to perform and either earn interest or appreciate, as for a variable annuity. What are the Benefits vs Risks of Investing in Annuities? An annuity is considered to be a good option as it offers regular payments, tax benefits and a potential death benefit. The most basic feature of an annuity is the individual gets an opportunity to tap regular payments in the form of supplemental income from an insurance company during the retirement. This will help the individuals that have not saved enough to cover their normal expenses. Further, the money that individuals contribute to an annuity is tax-deferred, which means the individuals do not need to pay taxes on the money until the individual starts receiving the payments. Annuities somewhat guarantee returns in terms of safeguarding retirement related financial requirements. Meanwhile, there is a certain level of risk involved when individuals invest their money. The individuals get fixed annuities guarantee on a certain percentage of the individual’s principal (original) investment, which is generally quite low. Moreover, variable annuities carry more risks because of the probability for an individual to actually lose the money, depending on the fund’s performance. However, variable annuities offer an extra benefit, which is a death benefit. Besides, the annuities have illiquid nature. Once the individual has contributed the money to fund an annuity, he cannot get it back or even pass it on to a beneficiary. It could only be possible if the individual has opted for another annuity plan, however, this could involve fees attached to it. Further, the benefits will disappear when an individual die. Besides, annuities generally involve high fees like administrative fees, mortality and expense fees associated with annuities, which makes the annuity products among the most expensive investment products available in the market. Insurance companies charge these fees, in order to cover the costs and risks of insuring the individual’s money. What do we understand by Death Benefit Associated with Variable Annuities? A death benefit is a payment made by the insurance company to a beneficiary when an individual who invests principally dies. The death benefit for a basic variable annuity is generally equal to the amount that the individual had contributed to the annuity. It will not depend upon the performance of the securities of the annuity’s fund. There are also variable annuities with enhanced death benefits, in which the insurance company records the value of the individual annuity’s investments each year on the annuity’s start date. In the case an individual dies, then the insurance company pays a death benefit equivalent to the highest recorded value of the annuity. For example, suppose an individual has entered into an annuity contract of total value $50,000 and on the anniversary of the annuity’s start date, the individual’s investments have increased to $75,000. The individual’s death benefit would then be of total value of $75,000, even if the value of the investments has fallen for the rest of your life. What are the different terms associated with Annuities? The annuity contracts have surrender charges which apply to both variable and fixed annuities. Surrender fees are generally high and require to be given for an extended period of time. A surrender charge is incurred when an individual goes for more withdrawals than actually allotted. The insurance company has the power to limit withdrawals primarily during the early years of the contract. Some annuities also have additional riders attached that are availed by giving an extra fee. A rider provides a guarantee which is optional. For instance, adding death benefits to an individual’s contract requires a death benefit rider. Rider fees will vary across individuals, but they can be of higher costs (up to 50% of the value of the in account). Moreover, the deposits into annuity contracts are generally locked up for a certain duration, which is known as the surrender period. The annuitant would incur a penalty if all or part of that money within this period gets touched. These surrender periods can be of a time period of two to more than 10 years, which will depend on the particular product. Surrender fees can be of 10% or even more and the penalty generally falls annually over the surrender period.
A loan to deposit ratio is used for calculating the ability of a lending institution to cover the withdrawals that are done by its consumers. The formula of loan to deposit ratio is defined as the loan divided by total deposits. To maintain the normal daily operations, a lending institution must have certain measure of liquidity.
What are Real Assets? Real assets are defined as economic resources that provide the holder with a consumption right. Also, real assets are mainly physical assets with intrinsic value due to its consumption rights rather than the financial properties. Natural resources and land are two institutional-quality real assets, which include commodities, precious metals, real estate, etc. All consumption ultimately originates from real assets, and as compared to its counterpart, i.e., financial assets, real assets provide a holder with a right to consume rather than serving as conduits of value. What are the types of Real Assets? Natural Resources Natural resources can be defined as a type of real assets which focus on direct ownership and have received minimal or no human alteration. Examples of natural resources include mineral and energy reserves. Commodities Commodities are a type of natural resources; however, it differs from them for being extracted and can be defined as homogeneous goods such as metals, agricultural products. Real Estates Real estates are defined as improvements on lands that are permanently affixed. Land The land is a type of real assets which comes in a variety of forms including undeveloped land, timberland, and farmland. While land might appear to belong to natural resources, it is not, as the option to develop it often requires a considerable managerial decision. Timberland includes both the land and the timber of forests tree. Likewise, farmland consists of both the land and the product cultivated. Institutional Quality Real Assets Natural Resources Examples of natural resources include oil, coal, ore, water, and any other inputs to production that largely remain in the natural state. As natural resources are under the surface; landowners and the government conjointly hold the rights for any manipulation to the land containing natural resources. Ideally, in many jurisdictions, landowners typically have surface rights, and the government holds the underground rights. Development of Natural Resources as Exchange Options Considering natural resource as an option to develop commodities or any other real assets widen the analysis of natural resources. Ideally, a developer of natural resources, mainly mining companies expend money to develop the natural resource at the land into a commodity. The process of developing commodities from natural resources include using mineral rights with other inputs such as labour, materials, fuel, and management. Thus, the development of natural resource into commodities is usually seen as an exchange option, i.e., an option to exchange one risky asset for another. Generally, mining companies exchange mineral rights and other inputs for output. Therefore, the development of a natural resource into commodities is a function of several factors as below: The volatility of the price of the asset (inputs). The volatility of the price being received. The correlation between the prices of inputs and the prices of output. The overall moneyness of the development process, i.e., the ratio of the developed value to the development cost. Ideally, the ratio of the developed value to the development greater than one is considered as a point to execute the exchange option of the natural resource. Land Any land which is raw, undeveloped and is not generating substantial food, resource, shelter, or recreation is an option just like natural resources. Investment in undeveloped land is an option similar to natural resources exchange options with the strike price of the cost of developing the land with an unlimited expiry. Valuation and Volatility of Real Assets Unlike financial assets, real assets often do not have observable market values; thus, they are valued by appraisals, which leads to smoothing on its return and price volatility. Appraisals – A Method to Value Real Assets Appraisals are defined as professional opinions concerning the value of a real asset. The appraised value of a real asset, especially real estates, is based on two methods, i.e., Discounted Cash-flow and Comparable Sales. Comparable sales method is ideally used for real assets having no income, and the method includes collecting data on prices of real assets with comparable properties with an economic value that has traded in the recent past. For real assets with regular income, alternative analysts/fund managers generally use the DCF method, i.e., a method of finding the present value of the expected future cash flow at a discount rate. However, one pitfall with appraisal valuation method is that it tends to smooth the data that can mask the true risk of an underlying real asset. What is Smoothing? Ideally, smoothing is defined as the reduction in the reported dispersion in a price series. A valuation by appraisal often leads to smoothing, which, in turn, can mask the risk of real assets. For example, assume that an investor buys two risk-free instruments, say a one-year T-bill and a one-year certificate of deposit (CD). Now let us assume that both the investments offer the same risk-free cash flow in one year. However, let’s assume that the one-year CD is non-negotiable with a large withdrawal penalty. Does the risk of both the instruments match? The answer is no, obviously as the investor has to pay the penalty for liquidating the CD, it has more risk as compared to the other instrument. Thus, the method of reporting the values of both instruments may vary. Generally, the market price of T-bills varies or fluctuate as interest rate shifts, and ideally, as both instruments are correlated to interest rate, the CD should also fluctuate as much as a T-bill over the change in the prevailing interest rate. However, despite that many financial statements demonstrate a very stable value that accrues slowly at the CD’s coupon rate while ignoring the impact of interest rate on CDs for accounting simplification. Over the period of time, this accounting simplification causes a smoothed reported price series relative to the economic value; thus, an investor observing this price series might wrongly perceive that CD is less risky as its volatility is masked. Likewise, the true value of a portfolio could also be smoothed to mask its volatility. For example, an asset manager can buy out-of-the-money (OTM) puts while simultaneously writing-off OTM calls, allowing him to cap the upper and the lower range of returns, resulting into lower than the reported volatility. What are the Advantages and Disadvantage of Real Assets? The major advantage of real assets is the diversification benefit and their small correlation with macroeconomic factors such as inflation, currency fluctuations, as compared to the financial assets. However, real assets tend to have lower liquidity and ideal valuation methods used to value financial assets might not give a true picture of the intrinsic value of a real asset. Also, the price data of real assets are not easily available, and the market structure is relatively more complex as compared to the financial market.