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Learn the Pros and Cons of Universal Life Index

Universal Life Pros and Cons Index

With indexed universal life, insurance companies don’t invest your premium dollars into a general investment account. Instead, it uses a very precise mix of bond investing and index call options to pay interest based on the upward movement of the stock market index.

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A call option is the right, but not the obligation, to buy a certain number of shares of a certain stock at a certain price within a certain period of time. For example, a stock option might give you the right to buy 1,000 shares of Microsoft stock at $10 per share over the next three months. This contractual right to purchase Microsoft may only cost you $500. So instead of paying $10,000 for 1,000 shares (that is, 1,000 shares at $10 per share = $10,000) and expecting the price to go up, you pay a meager $500 for control of that stock over the next three months.

If Microsoft stock was trading at $9 per share, but jumped to $11 in the next three months, you would exercise your options or sell them. With the right to buy stock at $10 per share, you are guaranteed a $1 per share profit if the stock moves to $11 per share. What if Microsoft’s stock doesn’t soar? What if it falls? Well, your options will expire worthless. You will not make money, but you will only lose what you paid for the option

With an index call option, the insurer buys the value of the entire stock market index (i.e. the S&P 500, Dow, or NASDAQ).

When the stock market moves up, insurance companies sell options or exercise them, and credit you with most of the profits, up to a certain interest rate cap or participation rate limit. For example, if an insurance company sets a 16 percent interest rate cap on an indexed UL policy, and the market moves up 7 percent, your cash value is credited with 7 percent.

However, if the market jumps 20 percent, you are only credited 16 percent because of the 16 percent cap on interest gains.

Why did you accept this deal?

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