Unveiling the Mechanics of Crediting Methods in Fixed Index Annuities

Fixed index annuities (FIAs) have many strong advantages to help protect your client’s savings and provide sustainable income over many years. Our goal is to help you gain a better understanding of the components that make up FIAs. This knowledge will enable you to make well informed decisions when it comes to product selection and design.
 
FIAs accrue interest based on an external index, the index selected determines the amount of indexed interest received, which will fluctuate based on index change over the crediting period. The choice of the external index stands paramount. It is critical to explore the array of index options aligned with your FIA considerations.
 
Equally crucial is the selection of the interest-crediting method for your FIA. The crediting method determines how fluctuations in the index will be calculated then credited to the annuity. The method chosen incorporates elements such as caps, spreads, and participation rates, which may greatly impact of indexed interest earned.
 
In the subsequent sections, we delve into prevalent crediting methods, shedding light on how they work.

​Annual Point-to-Point

A straightforward crediting methodology, annual point-to-point hinges on comparing the index value at two distinct points in time. This option could work well during periods of higher than usual mid-year volatility.

Process Overview:

• On the contract anniversary compare the initial index value against the closing index value.
• Compute the percentage change in the index.
• In the event of an uptick in the index, the indexed interest you receive is determined by factors like participation rates, caps, or spreads.
• Conversely, if the index registers a decline, you won't accrue indexed interest.

 
Illustrative Example:
In a hypothetical scenario, if the ending index value surpasses the initial value by 6%, the indexed interest for the policy year could be contingent upon factors like a participation rate of 110%. Thus, the indexed interest would amount to 6.6%. However, if a cap is in place and is lower than the 6% increment, the indexed interest would be capped accordingly. Similarly, if a hypothetical scenario features a 3% spread, the indexed interest would be 3% (6% change in index value – 3% spread).

Multi-Year Point-to-Point

Echoing the principles of annual point-to-point, the multi-year point to point spans multiple years, thereby diminishing the influence of market volatility between the selected points.
 
Process Overview:

• On your contract anniversary, compare the initial index value against the closing index value.
• Compute the percentage change in the index.
• If the closing index value surpasses the initial value, the indexed interest is determined by the participation rate.
• Conversely, if the index regresses, indexed interest isn't accrued.

 
Illustrative Example:
Consider a two-year point-to-point crediting scenario, where the ending index value outstrips the initial value by 10%. Assuming a participation rate of 150%, the indexed interest over the two contract years would amount to 15%.

Monthly Sum

This volatility-sensitive methodology tracks monthly index fluctuations, offering interest in buoyant markets while being susceptible to downturns.
 
Process Overview:

• On your contract anniversary each month, juxtapose the current index value against the preceding month's value, calculating the percentage change.
• At year-end, aggregate the monthly index fluctuations, subject to potential caps on increases.
• If the cumulative sum is positive, you receive the corresponding amount as indexed interest. Conversely, a negative sum entails no indexed interest.

 
Illustrative Example:
In a hypothetical monthly sum scenario with a 2.00% cap, monthly index fluctuations are evaluated. The cumulative sum determines the indexed interest, with any negative sum resulting in no interest accrual.

FIA Crediting Methods: A Quick Overview

Below is a chart outlining the relative sensitivity to performance volatility and interest potential of a few common Fixed Index Annuity (FIA) crediting methods.
 
Please note that this chart serves as a brief summary; it's essential to review the detailed descriptions of each crediting method before making a decision. Remember, no single method is universally superior. Depending on market conditions, one method may yield more interest than others—or no interest in a given year. Additionally, you have the option to combine crediting methods. Regardless of your choice, your accumulation value is safeguarded from negative performance.