This article is an adapted transcript of the video available on our LIFE180 YouTube channel.

Intro to 7 Risks of Proprietary Indexes

I’m writing this article because I’ve noticed a growing number of people promoting and selling financial products based on the upside potential of engineered indexes, often highlighting their "no cap" features. Some of these products use cap rates, while others tout high participation rates with no caps, among various other selling points.

However, as with any financial tool, it's crucial to understand the underlying mechanics and not be swayed by flashy illustrations or marketing promises. In preparing for this article, I took some time to reflect on these complexities while finalizing my book, IUL Exposed. It's currently with the editor, and I’m excited to share that we’ll be publishing it very soon.

So, if you haven’t already, make sure you subscribe to the LIFE180 YouTube channel and hit the bell to stay notified. When the book is released, I’ll be doing a big marketing push there to get it into as many hands as possible. I believe IUL Exposed is one of the most important books in recent years for the cash value life insurance market, especially because IULs are, in my opinion, the most misrepresented product in financial history.

With that said, let’s dive straight into what I would call the seven dangers of engineered indexes inside of IULs. I’ll keep this brief because, honestly, it’s not as complicated as some might make it seem.

Risk 1 - Complexity and Lack of Transparency In Engineered Indexes

The first danger is complexity and lack of transparency. Typically, IULs involve multiple asset classes. When we talk about these engineered indexes, they often rely on complex combinations of asset classes and sophisticated algorithms designed to control volatility.

Volatility control indexes are becoming increasingly popular across engineered indexes. While they’re marketed as tools to manage volatility, the reality is they rely on sophisticated algorithms.

The problem is, there's no transparency behind these algorithms. I firmly believe you shouldn't invest in anything you don't fully understand. Because of the complexity and lack of transparency in these engineered indexes, I strongly advise against putting your money into an Indexed Universal Life (IUL) policy, especially if it relies on these engineered indexes. If you're considering an IUL, my warning is clear: avoid engineered indexes. They are risky, and this article will explain why.

Risk 2 - Performance Uncertainty In 

The issue with engineered indexes is that they are typically created using a look-back method. Often, these indexes are only seven to ten years old, but they use a 20- or 30-year look-back to create the index.

This means they analyze past market data and design the index with the benefit of hindsight, allowing them to cherry-pick data to make the index appear more favorable. While this creates an illusion of transparency, it doesn’t account for future unpredictability or real market conditions.

The problem arises when future market conditions don't align with the historical data used to design the index. If the market performs differently, the index could underperform, leading to lower cash value growth.

That puts the policy at higher risk of lapsing or even imploding, particularly when you're counting on the policy to generate tax-free income during retirement. This scenario can have serious consequences at a critical time in your financial life.

For the record, this is exactly what I mean when I say these products are being misrepresented. They're often marketed as incredible vehicles for tax-free retirement income, but that's where the problem lies. The reality doesn't always align with the promises, especially when market conditions shift.

Risk 3 - The Proprietary Nature Of The IUL Index

The proprietary nature of these products is another issue. Life insurance companies began creating these engineered indexes because they essentially created their own problem. Back in 2011, there were only 14 companies selling IULs. Fast forward to 2024, and now over 70 companies are offering these products.

When you invest in an IUL, your money gets directed into the life insurance company’s general fund. From there, the company creates an options budget, which it uses to purchase options. It's important to understand that options are a supply-and-demand product. Back when there were fewer companies offering IULs, they were typically focused on three main indexes: the S&P 500, the Dow Jones, and the Russell 2000.

Initially, those were the three indexes commonly used by all IUL providers. However, as the market expanded and more companies began offering IULs, the dynamics changed. The cost of options, which is determined by supply and demand, started to rise significantly. With more companies entering the market, the demand for options increased while the supply remained relatively fixed, leading to soaring costs.

One of the reasons many people fail to recognize or acknowledge the rise in popularity of engineered indexes is that they were primarily developed to manage the escalating costs of options. By establishing exclusive partnerships with third-party providers, insurance companies aimed to control these costs while offering unique index options to their policyholders.

While insurance companies can control these options, the proprietary nature of engineered indexes often leads to additional costs and fees. This is an inherent aspect of such products that consumers should be aware of.

Risk 4 - Changing Index Components Inside of An IUL

Another significant concern with IULs is the changing index components. The alterations in these components can significantly impact the performance of the policy, adding a layer of unpredictability that can be detrimental to policyholders.

Moreover, not only can the components of an index change, including the rules and mechanisms governing them, but the insurance company may even eliminate the index altogether. If you chose an IUL based on the appeal of a specific engineered index, you might be unaware that, six to eight years down the line, that index could be entirely removed from your policy. In such a case, you would no longer have the opportunity to participate in it.

This issue highlights yet another layer of lack of transparency. While the illustrations may disclose that such changes can occur, this critical information is often downplayed or presented as inconsequential. I can assure you that these changes do happen; I've witnessed it with Nationwide products and various other offerings in the market.

Risk 5 - Fee Structures & Costs Inside of the IUL Indexes

Typically, engineered indexes come with added costs that traditional indexes do not impose. For example, the S&P 500, Dow Jones, and Russell 2000 are considered traditional indexes. In contrast, engineered indexes often entail additional management fees, performance fees, or other costs linked to the underlying assets, depending on their nature.

Often, there are fees associated with the algorithms used to manage these indexes and options. Ultimately, these costs contribute to the erosion of the illustrated value that your agent may present as a conservative outlook for the future. This reality underscores the fact that such representations may not accurately reflect the potential performance of these products.

Risk 6 - Market Disruption & Liquidity Risk In IUL

This can be somewhat confusing, as you're often told that your policy is liquid. However, during periods of market stress, many of these engineered indexes may actually underperform, which can result in less liquidity compared to other types of assets.

Investors may find themselves in a position where they need to hold these assets longer than anticipated. This was particularly evident with companies that utilized volatility-controlled indexes, which experienced significant losses right after the COVID-19 pandemic. The way these situations unfolded was quite concerning.

However, the algorithms employed to manage volatility in these indexes may struggle to adapt during extreme market conditions. This limitation can impact their effectiveness and ultimately affect the performance of the investments tied to these engineered indexes.

When we discuss varying market environments and conditions, it's important to recognize that relying on historical performance to predict future stock market behavior may not yield accurate results. If future market conditions diverge significantly from past trends, this can inject risk into the policy and impact the index's performance. Consequently, this could lead to lower cash value, a higher likelihood of policy lapses, and increased risk when taking loans against the policy.

Risk 7 - Overly Optimistic Illustration Risk

Finally, the last point to consider is illustration risk. These illustrations tend to be overly optimistic, often based on favorable current conditions. If you examine the assumptions behind these policies, you'll notice they are crafted during times that are favorable for selling. If the policies were designed in less advantageous environments, they would likely struggle to attract buyers.

These policies are crafted during favorable market conditions, using current assumptions that are projected to remain unchanged in the future. What truly puzzles me is the number of people who advocate for these products, claiming they are the solution to various financial challenges, such as 401(k) issues, government tax concerns, and inflation problems.

The reality is that we face numerous challenges related to government issues, including unfunded liabilities, rising government debt, and inflation. In light of these problems, there's a push for individuals to withdraw their money from government-controlled avenues and instead invest in these products.

But the bottom line is that when you invest your money in these products, you're simply shifting one risk for another. You're entering a market without concrete evidence of how these products will perform amid market changes and shifts.

Ultimately, if any of these factors come into play (such as the market not performing as anticipated based on the assumptions for returns, unfavorable conditions, or declining crediting rates) it’s likely to result in lower policy performance and reduced cash value.

This, in turn, increases the risk of policy lapse, which is not the goal when purchasing a cash value life insurance policy. To me, the primary reason for acquiring such a policy is to establish a foundational asset in your financial life.

The Reason You Want Cash Value Life Insurance Isn't In Alignment With How IUL Works

Many people purchase these products with the belief that they will serve as a one-size-fits-all solution to various challenges and help them achieve their financial goals and objectives.

Consequently, individuals often invest significant amounts of money into these products without fully understanding how the underlying assets function, how the indexed performance is determined, or the variables and shifts that can occur within these policies.

It’s crucial to thoroughly understand these concepts inside and out. This is one of the primary reasons I wrote my book, IUL Exposed. It's currently with the publisher, and I'm eager to release it as soon as possible.

I’m aiming to release the book within the next 30 days. This isn't about pursuing a big Amazon bestseller campaign; it's about getting the information into the hands of as many people as quickly as possible. I truly believe in the impact this book can have, potentially saving hundreds of thousands of individuals from the mistake of investing in an asset they don’t fully understand.

Additionally, I want to help agents avoid my experience, where I spent four and a half years selling IULs before realizing the complexities involved. My goal is to save you from making the same mistakes.

I'm essentially writing this book for my past self, back in 2010 through 2013, I wish I had access to the information I'm sharing now. It would have helped me make more educated decisions before going out and selling this product.

I hope this information has been helpful in shedding light on how engineered indexes work. If you have any questions or comments regarding any specific aspects of these indexes, please feel free to reach out. This article is not meant to be an exhaustive deep dive but rather an overview to spark further conversation.

ClarityCall

If you have more questions or want to delve deeper into this topic, be sure to subscribe to our LIFE180 YouTube channel and hit the notification bell. This way, you'll be alerted when I launch new videos, especially those discussing the release of my upcoming book. Once it’s out, it will provide you with all the in-depth information you need on this subject.

Have a blessed and inspirational day.