VLS results over last year shows still worthwhile holding bonds

itwasntme001

Thrugelmir wrote: »

What does having children to do with the decision?

Why not take the flat rate annuity and gift money to the children instead.

The retiree may want to pass something onto his heirs. Actually i dont think it really matters. What i did forget to say is how much the retiree needs in spending so assuming he needs the entire income each year from the annuity, if he were to buy the bond instead, he would need to sell some of the bond each year to make up for the low yield in order to spend the same amount as the income from the annuity.


The answer depends very much on how the bond price changes during the retirement. Assuming no change at all during the 22 year in retirement, he would be better off with the bond by £186k.


So you could pose the decision as costing 18.6% of the capital to hedge against interest rate risk by buying the annuity instead. It may very well be worth it given where rates are now, but who knows?

itwasntme001

Linton wrote: »

Note that the published yields are to maturity and so incorporate the capital loss you would get if you held them that long. 4.25% 30 year gilts currently cost £1.87 and so give a simple interest of 4.25/1.87=2.27%. The published yield is 0.94%.



The two options are not comparable. If you want inflation linked income you would not buy gilts and if you wanted to provide an inheritance for your children you would not use an annuity. So your optimal choice depends on your objective.

Not necessarily as i pointed out above. It also depends on how long the retiree expects to live, how much he needs to spend etc.

Linton

itwasntme001 wrote: »

The retiree may want to pass something onto his heirs. Actually i dont think it really matters. What i did forget to say is how much the retiree needs in spending so assuming he needs the entire income each year from the annuity, if he were to buy the bond instead, he would need to sell some of the bond each year to make up for the low yield in order to spend the same amount as the income from the annuity.


The answer depends very much on how the bond price changes during the retirement. Assuming no change at all during the 22 year in retirement, he would be better off with the bond by £186k.


So you could pose the decision as costing 18.6% of the capital to hedge against interest rate risk by buying the annuity instead. It may very well be worth it given where rates are now, but who knows?

The bond price will change over time - it must drop to close to £100 by maturity.

itwasntme001

Thrugelmir wrote: »

As with any investment. One needs to understand it. If you don't then it's not for you. That's my mantra. Funds need to be considered on there own individual merits, i.e. the constituent holdings.

My concern is that people aren't fully understanding the longer term downsides of buying bonds at the current time. Historic performance data is becoming totally meaningless with many bonds offering a guaranteed capital loss at redemption. We are in a new unchartered era (of low interest rates and Central Bank buying programmes). Which will diminish future returns on new bond issuance.

I should add that I do personally hold fixed interest stocks in my portfolio.

What are fixed interest stocks?

Thrugelmir

Linton wrote: »

If you buy a 20 year gilt half way through its life it will be equivalent to buying a new 10 year gilt, in that you will get an equivalent total return on maturity. Otherwise no-one would buy the lower return gilts. The capital loss on an old high coupon gilt will be mitigated by a higher actual yield.



AIUI you dont buy gilts at par even when issued as they are auctioned.

Problem is that the Central Banks are now buyers creating a false market in Government Bonds. With money to continually invest they'll mop up whatever they can buy to maintain their holding at a static level.

Agreed. How many investors consider this. Particularly those in drawdown. Withdrawing income and rebalancing their portfolios on the basis of current fund values.

I appreciate that Gilts are auctioned. Rather than tendered for as they were in the past. However if you buy them at issuance and hold them to maturity. As a pension fund would. The yield to maturity is quantifiable.

itwasntme001

Linton wrote: »

The bond price will change over time - it must drop to close to £100 by maturity.

Yes you are right. But at death there's another 8 years till maturity, that too a reduced bond amount as he would have spent most of it by death. So the actual loss is not as much plus you would still have some capital left over vs an annuity where nothing is left. The question really is what happens to the term structure of rates over the lifetime of the retiree.

itwasntme001

A lot to think about for a retiree!!!

Thrugelmir

itwasntme001 wrote: »

What are fixed interest stocks?

Corporate Bonds, Preference Shares and Convertibles.

Thrugelmir

itwasntme001 wrote: »

So you could pose the decision as costing 18.6% of the capital to hedge against interest rate risk by buying the annuity instead. It may very well be worth it given where rates are now, but who knows?

An annuity provides insurance against longetivity.

itwasntme001

Thrugelmir wrote: »

An annuity provides insurance against longetivity.

Yeh on balance i think an annuity wins given it reduces/eliminates interest rate and inflation and longevity risks.