Retirement Investor

What to do with a Decade of Surplus Gains from the Stock Market?


It’s annual statement time again and for anyone with stock market exposure, it should be an enjoyable experience reviewing the numbers. Those retirement and brokerage accounts are worth much more than they were a year ago, just as they were in 2020 and 2019. And 2017. And 2016. And 2014, 2013, and 2012. Ok, you get the picture.  

In fact, over the last ten years, the stock market has produced extraordinary returns, with the S&P 500 producing a compound annualized growth rate (CAGR) of 16.58%. Comparing that impressive return to the long run CAGR going back to 1957 of 10.67%, doesn’t do justice to just how much bigger the results have been over the last decade than over the long run. A better method for conveying the scale of that outperformance is to put it in dollar terms.

Dollars Tell the Story Better Than Percentages

For example, $100,000 invested in the S&P 500 total return index on January 1st, 2012, (or similar ETF since one can’t invest directly in an index) grew to – drum roll please – $465,000 by the end of 2021. That’s almost a quintuple – amazing. And $250,000 grew to about $1,163,000, and $1,000,000 to $4,650,000. Those are, simply put, life changing returns for many and unlikely to be replicated again anytime soon.

Now, let’s compare those figures to results using the long-term market CAGR figures, using S&P 500 total returns going back to 1957. For $100,000 growing at that long-term CAGR of 10.67%, it grows to a still impressive $275,000 over ten years. And $250,000 growing at that rate grows to about $689,000, with $1,000,000 growing to $2,750,000 (still impressive). With these numbers to compare to actual market performance over the last decade, we can build a proxy for what I’ll call surplus gains.

For example, if the last decade produced $365,000 of gain for every $100,000 invested in the S&P 500, but the long-term CAGR would have produced about $175,000 of gain, the “surplus” gain for the decade was essentially the difference, or about $190,000 per $100,000 invested. On $250,000, the surplus gain was about $474,000. Those numbers represent a heck of a lot of surplus gain and give us a starting point for thinking about what to do for the next decade, and how much of a portfolio to consider allocating to something with a risk management element to it, like a registered index-linked annuity (RILA).

Let’s look at an example. 

Redirecting Surplus Gains to a RILA 

Let’s go back to our earlier examples using dollars, and assume a client had an equity portfolio entirely in the S&P 500 total return index over the last ten years. Their portfolio was worth $250,000 on January 1st, 2012, and grew to $1,162,500 by December 31st, 2021.

The client is understandably thrilled with those results, but you remind them that those gains are likely not to be repeated. Now the question is, what to do next? You let the client know that the value of their “surplus” gains in this last decade, given the market’s extraordinary performance, amounted to almost half a million dollars more than what they would have reasonably expected at the market’s long term average performance from 1957-2021.

This is because $250,000 at the long run, average return of 10.67% would have grown to about $689,000 over ten years, instead of the $1,162,500 it grew to over the last decade. With expectations for future returns much lower and the possibility of losses higher, but the need for growth remaining, you recommend that clients reallocate those excess gains into a vehicle with non-U.S. equity exposure. A registered index-linked annuity is an excellent way to get that exposure, given the lower risk profile of the annuity as compared to an ETF or mutual fund. 

Using RILA for Foreign Equity Exposure

The hypothetical annuity you recommend offers your client the ability to invest in a range of indexes, but you recommend that the client use the annuity for foreign equity exposure, given the higher projected returns for non-U.S. equities. With your counsel, the client chooses to allocate a significant chunk of their surplus gains from the last decade, into an MSCI EAFE indexed account with 6-year point to point interest crediting. The MSCI EAFE indexed account will offer the potential for up to 45% total return over six years, while also protecting against the first 15% of losses. That protection from some loss at the end of six years is the draw to get the client more comfortable putting some of their money into non-U.S. equities, which have underperformed U.S. equities for a long time. Meanwhile the 45% capped total return potential represents the opportunity for annualized returns of up to 6.4%. That may not seem terribly exciting given the last ten years, until you consider some of the projections coming about now for the next decade. 

Vanguard’s Economic and Market Outlook 2022 projects ten year returns in U.S. equities across market cap and style categories to average about 3.3%, with their estimate of global equities ex-U.S. better at 6.2%. (That may bode well for MSCI EAFE indexed account participation within a RILA versus an S&P indexed account, but again, who knows.) For fixed income, Vanguard projects domestic bonds to average a return of about 1.9% a year. 

Meanwhile, forward views at Wilshire, as reported in the Wall Street Journal in a January 12th article (“Pension Funds Pump More Money into Private Equity”) are not much rosier, with 5% being their estimate for domestic equities and 1.85% for core bond funds. 

It’s been a great run for the S&P 500 over the last decade. But clients are now ten years closer to retirement and may be underinvested in cheaper asset categories that have a chance to outperform the now pricey S&P 500 going forward. Consider allocating some or all a client’s portfolio windfall over the last decade into a registered index-linked annuity with non-U.S. equity indexed accounts. The downside protection may be the comfort they need to look overseas, and the tax-deferred growth (uniquely appealing for non qualified assets) is the icing on top in a less tax friendly future.

John Rafferty

John Rafferty has spent much of his 30-year career building annuity marketing departments at MassMutual, AIG/American General, and Symetra. He holds a B.A. in economics from Colby College and an M.A. in public policy from Trinity College, and currently operates an annuity sales and marketing consultancy,

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