The cap rate sets an upper limit on the interest you can earn in any single crediting period, regardless of how well the underlying index performs. It's one of the trade-offs for having a 0% floor that protects you from losses.
How cap rates work:
- If the cap is 6% and the index gains 4%, you earn 4%
- If the cap is 6% and the index gains 10%, you earn 6% (capped)
- If the index loses value, you earn 0% (floor protection)
Types of cap structures:
- Annual Cap: Maximum for a full year crediting period
- Monthly Cap: Maximum for each month in monthly sum strategies
- No Cap: Some strategies have no cap but use participation rates or spreads instead
Factors affecting cap rates:
- Interest rate environment (lower rates = lower caps)
- Contract term and surrender period
- Insurer's investment strategy and reserves
- Crediting method selected
When evaluating cap rates:
- Compare caps across similar crediting methods
- Consider the historical performance of the index
- Remember that caps may be adjusted annually (check contract minimums)
- Higher caps are not always better if other terms are unfavorable
Current market cap rates for point-to-point S&P 500 strategies typically range from 4% to 10%, depending on the insurer and contract terms.
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