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The Fine Print on Stable Value Funds

Investors in stable value funds, such as fiduciaries of retirement plans, often overlook important details about these offerings.

W. Scott Simon, 10/04/2012

W. Scott Simon is a principal at Prudent Investor Advisors, a registered investment advisory firm. He also provides services as a consultant and expert witness on fiduciary issues in litigation and arbitrations. Simon is the recipient of the 2012 Tamar Frankel Fiduciary of the Year Award.

I could feel the tension rising in the examination room. It was the first time that I had visited my new ophthalmologist who was now busy checking my nearsighted eyes. We were chatting as is usual in such situations, and he asked what I did for a living. I replied that I was in financial planning. Uh, wrong answer. He actually stopped his examination and looked at me. At least I think he did because my eyes were dilated and still trying to adjust to the after-effects of his bright, probing light.

He then started a rant about something called "Executive Life," "guaranteed investment contracts," and "gigs." The doctor was actually saying "GICs"--the acronym for guaranteed investment contracts--but before that day in his office, I had never heard the term, which was why I was trying to figure out what music gigs had to with his ranting.

The doctor then accused his investment advisors of leading him astray and that he was ruined as a result of investing in guaranteed investment contracts with Executive Life. He told me that he had planned to retire that year, but now he didn't know how much longer he would have to keep working.

I felt a need to dispel the tension in the examination room and assure him that my work in the financial services industry had nothing to do with gigs. I had entered that industry only a few months before, so I was still very green. I believe that when the doctor found out I was in financial services, he naturally lumped me in with his own advisors who had led him so far astray. Despite my general protestations of innocence--accompanied, no doubt, by a summoning up of my most angelic countenance--I got the distinct impression that he thought I was a rat. Just like every other financial advisor no doubt.

Needless to say, that was my first--and last--visit to the ophthalmologist. I sure hope that he doesn't have to work any longer. And that's how I was introduced to guaranteed investment contracts.

Guaranteed Investment Contracts
A GIC, typically issued by insurance companies and banks, is a contract whereby the issuer guarantees to pay some stated interest rate over some stated period of time and to repay principal. This "guarantee," however, is conditioned on the claims-paying ability of the insurance company issuing the GIC. In a time when municipal bankruptcy has been filed this year by a number of California cities, when my home state of California is effectively insolvent, and when the credit rating of the government of the United States has been downgraded twice in the last three years, it's useful to place a GIC's guarantees in proper context: They rest entirely on the full faith and credit of the insurance company itself that issues the GIC.

Stable Value Funds
Stable value funds invest primarily in GICs to create a diversified portfolio of high-quality, shorter-term (e.g., 3-5 years) fixed-income investments. Such portfolios include synthetic GICs, which are invested in fixed-income and money market instruments.

W. Scott Simon is an expert on the Uniform Prudent Investor Act and the Restatement 3rd of Trusts (Prudent Investor Rule). He is the author of two books, one of which, The Prudent Investor Act: A Guide to Understandingis the definitive work on modern prudent fiduciary investing.

Simon provides services as a consultant and expert witness on fiduciary issues in litigation and arbitrations. He is a member of the State Bar of California, a Certified Financial Planner, and an Accredited Investment Fiduciary Analyst. Simon's certification as an AIFA qualifies him to conduct independent fiduciary reviews for those concerned about their responsibilities investing the assets of endowments and foundations, ERISA retirement plans, private family trusts, public employee retirement plans as well as high net worth individuals.

For more information about Simon, please visitPrudent Investor Advisors, or you can e-mail him at wssimon@prudentllc.com

The author is not an employee of Morningstar, Inc. The views expressed in this article are the author's. They do not necessarily reflect the views of Morningstar.

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