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Sparkasse Index Guarantee

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Sparkasse Index Guarantee

Around 2015, the persistent weakness in new life insurance business led to the introduction of a new product: index-linked policies. This type of life and pension insurance was developed to offer policyholders the opportunity to benefit from the performance of the stock markets with relatively low risk. But how exactly do index-linked policies work, and what advantages do they offer investors?

Brief overview

Index-linked policies are life or pension insurance policies that do not offer a guaranteed interest rate. The generated surplus is invested in options on a stock index. In the worst-case scenario, the saver receives only their initial contributions back at the end of the term, without any additional profit. A true unit-linked solution is generally much more attractive.

What is an index-linked policy?

An index-linked policy is a hybrid form of retirement savings. Before the introduction of index-linked policies, there were primarily classic life and pension insurance policies with guarantees, as well as unit-linked solutions. The index-linked policy combines the guaranteed repayment of the premiums paid with the opportunity for capital gains through stock market indices. Unlike traditional contracts, however, these policies do not offer a guaranteed interest rate.

How an index-linked policy works

Life insurance premiums are divided into a risk component and a savings component, although the risk component is omitted in the case of annuity insurance. With an index-linked policy, the premiums are initially invested in conservative investments such as fixed-income securities and mortgages, with only a small portion allocated to equities. These conservative investments are intended to generate surpluses, which, after deducting costs, are reinvested in further conservative investments.

The key difference with index-linked policies is that the surplus is invested in options on stock market indices. At the start of the contract, the policyholder chooses an index, which can be recalculated annually. Depending on market conditions, the saver can decide whether the surplus continues to accrue interest or is invested in the chosen index.

For example, 1.5% % excess interest on a balance of €10,000 could be used to invest €150 in an option on a stock index. This option potentially allows for higher returns through leverage. If the option is "in the money," the profit is credited to the insurance contract. If the option is "out of the money," the bank bears the loss but receives a premium, which is charged to the policyholder.

Cap and quote

Insurers typically set a profit cap, or cap, on index-linked policies, which is recalculated annually. If the profit from the options trading exceeds this cap, the surplus goes to the insurer. Alternatively, a quota can be agreed upon, whereby the policyholder receives a fixed percentage of the profit. In the long run, the quota can be the more lucrative option.

Is an index-linked insurance policy advisable?

Traditional pension or life insurance policies are no longer advisable due to high costs and low interest rates. Unit-linked solutions, which invest directly in funds or ETFs, offer better return opportunities. These are particularly attractive for long-term investments.

The only sensible reason to take out a life or pension insurance policy with a savings component is for company pension schemes. However, a true unit-linked policy is usually the better choice in this case.

Disadvantages and criticisms of index-linked policies

Index-linked policies usually offer only marginally better returns than traditional contracts. The costs of the option premium and the reduction of profits through caps or quotas diminish the return prospects. Those prioritizing security miss the guaranteed interest rate. Furthermore, the combination of equity investments and conservative bonds is not very compelling.

For private pension planning, it makes more sense to cover the risk protection via a pure term life insurance policy and to invest the savings portion directly in index funds.

Comparison parameters

Duration	40 years
Monthly fee	€300/month
Product type	Index-linked policy
Pension guarantee period	Minimum value
dynamics	no dynamics
Process management	No
Additional insurance	No

Closing costs, so-called alpha costs

The closing costs are due at the time the contract is signed, and these typically cover the advisor's fees. These costs are calculated over the next five years based on the premiums paid. The closing costs for SV Index Garant amount to 2.5 times the total premiums paid over the valuation period. These costs are in line with standard market practice.

The valuation period or the valuation amount is calculated by multiplying the annual contribution (€300 * 12 months = €3,000) by the number of years since the start of the contract. In our case, this is 37 years.

40-year valuation period * €3,600 annual premium = €144,000 invested capital. Of this, 2.5 % corresponds to €3,600 in closing costs.

Contribution-related costs, so-called beta costs

The beta costs are deducted from the contract each month or year after the premium payment. These costs are always a percentage of the premiums paid. The savings bank charges 7.5% of the premium. For a €300 premium, this amounts to €22.50 per month, or €270 per year.

Policy value-related costs, so-called gamma costs

Gamma costs typically represent the most significant component, as they account for the highest costs over the term. However, there's a crucial point to note: the Generali Wealth Accumulation and Security Plan charges 0.5 % annually on the capital! In comparison, similar providers charge only one-tenth of these gamma costs.

What you should do next

If you have a private pension plan with Sparkasse, I invite you to contact us. We will subject the costs of your contract to a detailed financial analysis and examine potential improvements. Because we work without commission, we can offer you the added value mentioned above.

Disclaimer
All information, figures, and statements in this article are for illustrative and educational purposes only. This article is intended for the general public and not for any individual investor, nor specifically for existing or future clients of Badent & Klemm Consulting. Under no circumstances should this article or the information contained herein be construed as financial advice, an investment recommendation, or an offer as defined by the German Securities Trading Act (WpHG). While every effort has been made to avoid errors, we cannot guarantee the accuracy of the information in this article. Past performance is not indicative of future results. Direct investment in the securities indices shown here is not possible. In particular, such an index does not include costs and taxes. Investing in bank deposits, securities, investment funds, real estate, and commodities carries a high risk of loss, including the risk of total loss. The investment techniques mentioned in this document may result in substantial losses. We accept no liability for any damages resulting from the use of the information contained in this article.