Locking In Annuity Rates?

itwasntme001

masonic said:

itwasntme001 said:

masonic said:

itwasntme001 said:

masonic said:

itwasntme001 said:

DRS1 said:

So a layman's conclusion from that is that you can't adopt a buy and forget policy.  You would have to keep tweaking for things like getting older and changes in yield.  Is that right?

I may be wrong but I think people looking to lock in today's annuity rates are thinking of a buy and forget approach.  Buy a fund with the right duration today and then come back in 10 years time and use it to buy the annuity hoping that if your capital today would buy you an annuity of £6k pa then in 10 years your capital will still buy you £6kpa

Or are they expecting it will be £6kpa plus 10 years of inflation?

You should expect £6k plus inflation.  The index-linked bond fund should hedge for that as long as the duration is appropriate as the previous poster said.

You need to be reducing the duraiton of the bond fund as time passes.  Unfortunately for my pension I only have one index linked bond fund available and this has a duraiton of around 15 years.  I am in my earlys 40s and as per the previous poster, I would need a roughly 23 year duration to be close to being hedged.  I am therefore running the reinvestment risk with the bond fund because yields might fall as I continue to hold the fund and the fund reinvests at lower yields as bonds mature.

It is a serious risk.

An individual index linked gilt (or a few) would mitigate that risk, and avoid the need for rebalancing along the way. I'm gradually adopting an approach that involves a ladder up to SPA and a long ILG that will be sacrificed for an annuity. But some of my pension savings aren't in a place where I can hold individual gilts, so until I can transfer that I also hold an ILG index fund.

I would transfer to another pension provider that gives me ability to buy direct gilts if I could retain my 55 yr age access, but thats impossible.

Another option is to hold the gilts in a different account (e.g. S&S ISA) while holding other investments in your pension. When the time comes, you can sell and repurchase assets between the accounts to retain the other investments while releasing the cash in your pension.

But what if the pension investments fall in value; I might not get the expected annuity income as the pension would annuitise on a lower value.

Also its sub-optimal from a tax perspective as ideally you want growth assets in ISA and bonds in pension instead of the other way around.

Well it really depends on what else you invest in and how much of your retirement savings you intend to annuitise. And how long you have before you intend to purchase your annuity. How much above RPI/CPIH + 2% are you targeting for your ISA for the next 10 years for example?

In the scenario where your growth assets underperform the ILG, which is a concern for you, if you were planning to use almost all of your pension savings to buy an annuity, then yes you'd be limited in the size of annuity you could buy. But you'd also have a larger ISA pot that had effectively moved some of your assets out of tax deferred status - and it would, to some extent, be going back into equities at or near a market low. This would give you more freedom, although you could still choose to convert that tax free piece to taxable income if you wished.

In the scenario where your growth assets outperform the ILG, then that may leave you with more pension than required annuity, but you'd also be in the position of having more overall than you need at the point of securing an annuity, so yes, not optimal for tax, but I'd categorise as a nice problem to have.

Personally, I'm only planning to annuitise on about 20% of my total pots. That excludes the pre-SPA ladder. So I'll just be securing an income floor, which will be supplemented by other assets I'll keep invested.

My specific situaiton is that my entire pension will be annuitised come 55.  This will provide all my basic spending needs at the current value.  I have recently converted 60% of my 100% equities into the ILG fund.

I get your suggestion, and I think a mix is probably best suited, hence I will likely remain as invested above in my pension till i annuitise (my ISA is about 70/30 with the 30 in nominal bonds and bond funds, and I also have a fairly significant GIA which is 100% equities).

Overall my asset allocation is 65% equities 35% cash/bonds.

OldScientist

DRS1 said:

So a layman's conclusion from that is that you can't adopt a buy and forget policy.  You would have to keep tweaking for things like getting older and changes in yield.  Is that right?

I may be wrong but I think people looking to lock in today's annuity rates are thinking of a buy and forget approach.  Buy a fund with the right duration today and then come back in 10 years time and use it to buy the annuity hoping that if your capital today would buy you an annuity of £6k pa then in 10 years your capital will still buy you £6kpa

Or are they expecting it will be £6kpa plus 10 years of inflation?

With a single bond fund, the answer is no you cannot match the duration of the annuity plus delay period (since the delay period will gradually decrease to zero, while the duration of the fund will depend on the bonds in issue and the yields).

For life style type approaches (which seem to assume a nominal annuity purchase), the fixed income is often a mix of long bonds and cash - gradually increasing the allocation of the latter will decrease the overall duration.

With individual gilts you can fire and forget since they will age in a similar way to the annuity, although the matching will not be perfect.

OldScientist

Secret2ndAccount said:

You can't lock in a price for anything to purchase in 10 yers' time. Not a car; not a house; not a chicken. An annuity is one product where you could realistically price it for provision in 10 years, since they are already commiting to continue paying you for potentially decades. It appears there is not sufficient demand. For a decade, nobody has wanted to buy an annuity, now everybody wants one. If it stays like this for a number of years perhaps a disruptor will come along and start offering all sorts of useful products (a single annuity that pays out 12k extra until SPA then drops?  A product that matches wage inflation instead of CPI?). Until then, all you can do is build a nearest equivalent solution for yourself.
A single bond, TR35 would pay inflation plus 1.6% over 10 years. Or buy TR40 which pays CPI+2%. After 10 years (or at any other time) it is likely you could sell it for an amount roughly commensurate with the expected gain. If the price wasn't what you expected, there's a fair chance that annuity prices would have canceled out the error. The bad news is that you might not get exactly the annuity you hoped for. The good news is that you can get your money back at any time if live intervenes. Or you might get more...

In the US, deferred annuities (called deferred income annuities DIA or QLAC) are available - deferred annuities are even mentioned on some UK insurance company sites, but do not (yet?) appear to actually be available. Unfortunately for the Americans, they no longer have access to CPI annuities only nominal.

An annuity that pays to 67 is already available (fixed term annuity).

dawsonrm

Has anyone actually setup an index linked annuity ladder in a sipp? Which provider would be the best choice for doing this?

masonic

dawsonrm said:

Has anyone actually setup an index linked annuity ladder in a sipp? Which provider would be the best choice for doing this?

I would suggest AJ Bell, as not only do they allow online trading, they also show the dirty price in the account valuation.

SVaz

I priced up defferred fixed term annuities online starting from 2028 but when you click through to the companies,  which are Canada Life, L&G and Royal London - they all say not available to retail and you need an advisor to buy one. 

I’m an L&G customer for life cover but I haven’t logged in and poked around to see if existing customers can do anything. 

RogerPensionGuy

SVaz said:

I priced up defferred fixed term annuities online starting from 2028 but when you click through to the companies,  which are Canada Life, L&G and Royal London - they all say not available to retail and you need an advisor to buy one. 

I’m an L&G customer for life cover but I haven’t logged in and poked around to see if existing customers can do anything. 

It's all a game in my opinion. 

I got a very good annuity quote from a Brooker and it was with my SIPP platform provider.

So I contacted my SIPP provider and got an exact quote like 4 like 100%

Unfortunately for me the SIPP provider offered me a fair chunk less if I went direct with them. 

I was hoping the SIPP provider would offer at least the same or hopefully more and a purchase could be achieved quicker avoiding a possible reduction in offering and starting the monthly payments sooner hopefully getting another month or two of payments rather than delaying payments after locking in the deal. 

I'm currently still mulling over annuity offerings and very unsure if picking a zero collar floor deal(RPI) on a lowered initial output is a good idea for sleepy me. 

Cus

OldScientist said:

SVaz said:

Is it Always the case that when bond prices fall, yields rise and Annuity rates are higher?

So if you had £100k in a 100% bonds fund that dropped to £75k,  it doesn’t matter because the annuity income is the same / similar either way? 

Are there any circumstances where that wouldn’t happen?  

I’m sorted for income until I’m 74, in 14 years time,  after that then using half my pot for a joint life annuity might be a good idea.
I remember Dunstonh saying that you can have it paid into a Sipp,  which would be handy if you don’t need the income - if, however one of us died then it would be needed.  

Sorry for the rather extensive answer...

 The pricing of annuities depends on projected life expectancy, expected asset returns, and fees (e.g., see https://retirementresearcher.com/income-annuity-101/ for the basic method). Values for each of these may very well vary between insurance companies which leads to the difference in available payout rates (e.g., on 1/10/2025 a single life RPI annuity at 65yo had payout rates between 4.91% and 5.28%). For example,
1) Life expectancies are provided by the Institute and Faculty of Actuaries (see https://www.actuaries.org.uk/learn-and-develop/continuous-mortality-investigation/other-cmi-outputs/unisex-rates-0), although health and other factors (e.g., postcode) are considered.
2) Expected asset returns will depend on what the insurance company is invested in (gilts, corporate bonds, infrastructure, etc.). An approximation is to use gilt yields (e.g., see the calculator at https://lategenxer.streamlit.app/Annuity_Valuator ).
3) Fees will also vary between insurance companies.

Assuming 1) and 3) are constant, then the annuity payout rate will depend on yields - so as yields go up, the payout rate will increase and vice versa. The magnitude of change in payout rate will depend on the duration of underlying assets of the annuity - this can be approximated by assuming gilts are held - increasing yields will decrease the duration of the annuity while increasing life expectancy will increase the duration (this means that the duration gets shorter at later ages). I've mentioned on these boards before that the duration is approximately equal to half the life expectancy but the duration also depends on yield (and given that we don't actually know the underlying investments or fees, this is a very rough approximation).

Interestingly, research (US based, https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2021579 ) indicated that "Annuity prices react more rapidly and with greater sensitivity to an increase in the relevant interest rate compared to a decrease" (in other words in favour to customers!).

Finally, the change in NAV of a bond fund is dependent on the weighted modified duration which will in turn depend on the bonds held and their yields.

To take an example, assume the bond fund and the annuity both have a duration of 10 and yields increase by 1 percentage point. The payout rate of the annuity will increase by roughly 10% while the NAV of the bond fund will decrease by 10%, so the overall income from an annuity purchase will stay the same as before the change in yields. Note that the duration of both annuity and fund would change after the change in yields, but not necessarily by the same amount.

However, if the duration of the bond fund was 15, then a 1pp increase in yields would mean that the NAV would fall by 15% and the amount of income after annuity purchase would be reduced (roughly to 1.10/1.15=0.96).

A step change in life expectancies (e.g., a cheap cure for cancer) would temporarily disrupt the link between payout rates and yields (and would have the opposite effect on life insurance premiums).

Do you have any research related to the following?

If one bought an annuity in 2018 when interest rates were low, then assuming it would then cost £100k to obtain the annuity with a rate of x%, which would increase with RPI, and assume today that a similar annuity purchased today for £100k obtains a rate of say 2x%, would the original annuity be paying the same rate now, and if not purchased then, would the £100k be valued today at £50k but would still obtain a x% rate now?

Basically the question is that if one had only had a bond pension investment with the intention of buying an annuity, then the drop in bond prices made no difference, so one could say that there is no such thing as 'good current annuity rates' ?  Assuming all other factors the same.

masonic

Cus said:

OldScientist said:

SVaz said:

Is it Always the case that when bond prices fall, yields rise and Annuity rates are higher?

So if you had £100k in a 100% bonds fund that dropped to £75k,  it doesn’t matter because the annuity income is the same / similar either way? 

Are there any circumstances where that wouldn’t happen?  

I’m sorted for income until I’m 74, in 14 years time,  after that then using half my pot for a joint life annuity might be a good idea.
I remember Dunstonh saying that you can have it paid into a Sipp,  which would be handy if you don’t need the income - if, however one of us died then it would be needed.  

Sorry for the rather extensive answer...

 The pricing of annuities depends on projected life expectancy, expected asset returns, and fees (e.g., see https://retirementresearcher.com/income-annuity-101/ for the basic method). Values for each of these may very well vary between insurance companies which leads to the difference in available payout rates (e.g., on 1/10/2025 a single life RPI annuity at 65yo had payout rates between 4.91% and 5.28%). For example,
1) Life expectancies are provided by the Institute and Faculty of Actuaries (see https://www.actuaries.org.uk/learn-and-develop/continuous-mortality-investigation/other-cmi-outputs/unisex-rates-0), although health and other factors (e.g., postcode) are considered.
2) Expected asset returns will depend on what the insurance company is invested in (gilts, corporate bonds, infrastructure, etc.). An approximation is to use gilt yields (e.g., see the calculator at https://lategenxer.streamlit.app/Annuity_Valuator ).
3) Fees will also vary between insurance companies.

Assuming 1) and 3) are constant, then the annuity payout rate will depend on yields - so as yields go up, the payout rate will increase and vice versa. The magnitude of change in payout rate will depend on the duration of underlying assets of the annuity - this can be approximated by assuming gilts are held - increasing yields will decrease the duration of the annuity while increasing life expectancy will increase the duration (this means that the duration gets shorter at later ages). I've mentioned on these boards before that the duration is approximately equal to half the life expectancy but the duration also depends on yield (and given that we don't actually know the underlying investments or fees, this is a very rough approximation).

Interestingly, research (US based, https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2021579 ) indicated that "Annuity prices react more rapidly and with greater sensitivity to an increase in the relevant interest rate compared to a decrease" (in other words in favour to customers!).

Finally, the change in NAV of a bond fund is dependent on the weighted modified duration which will in turn depend on the bonds held and their yields.

To take an example, assume the bond fund and the annuity both have a duration of 10 and yields increase by 1 percentage point. The payout rate of the annuity will increase by roughly 10% while the NAV of the bond fund will decrease by 10%, so the overall income from an annuity purchase will stay the same as before the change in yields. Note that the duration of both annuity and fund would change after the change in yields, but not necessarily by the same amount.

However, if the duration of the bond fund was 15, then a 1pp increase in yields would mean that the NAV would fall by 15% and the amount of income after annuity purchase would be reduced (roughly to 1.10/1.15=0.96).

A step change in life expectancies (e.g., a cheap cure for cancer) would temporarily disrupt the link between payout rates and yields (and would have the opposite effect on life insurance premiums).

Do you have any research related to the following?

If one bought an annuity in 2018 when interest rates were low, then assuming it would then cost £100k to obtain the annuity with a rate of x%, which would increase with RPI, and assume today that a similar annuity purchased today for £100k obtains a rate of say 2x%, would the original annuity be paying the same rate now, and if not purchased then, would the £100k be valued today at £50k but would still obtain a x% rate now?

Basically the question is that if one had only had a bond pension investment with the intention of buying an annuity, then the drop in bond prices made no difference, so one could say that there is no such thing as 'good current annuity rates' ?  Assuming all other factors the same.

If you take HL's best buy annuity rates, say for single life, age 60, RPI, then you can do the then and now comparison:

Now: https://www.hl.co.uk/retirement/annuities/best-buy-rates vs Sep 2018: https://web.archive.org/web/20180925152122/https://www.hl.co.uk/retirement/annuities/best-buy-rates

£4,515 vs £2,445 per £100,000

You can also look at an index linked gilt index fund with maturity around 15 years and compare prices, e.g. 

https://www.vanguard.co.uk/professional/product/fund/bond/9226/uk-inflation-linked-gilt-index-fund-gbp-acc

Now: £13,776 vs Sep 2018: £18,090 (based on the chart of growth of £10,000 since inception)

So £100,000 in Sep 2018 used to purchase an index linked annuity would give you £2,445 in 2018 at RPI = 284.1, which would now be £3,495 at RPI = 406.1

If you instead waited, your £100,000 would now be £76,153, which could be used to purchase £3,438, which is pretty close.

So the hedge protected your rubbish annuity rate. Obviously the smart move was not to take the hedge when annuity rates were at historic lows.

Edit: I realise I've glossed over the lack of income in the bond investment scenario, but I'm not sure how to weigh that against locking in a negative real YTM at the point of purchase!

DRS1

OldScientist said:

Secret2ndAccount said:

You can't lock in a price for anything to purchase in 10 yers' time. Not a car; not a house; not a chicken. An annuity is one product where you could realistically price it for provision in 10 years, since they are already commiting to continue paying you for potentially decades. It appears there is not sufficient demand. For a decade, nobody has wanted to buy an annuity, now everybody wants one. If it stays like this for a number of years perhaps a disruptor will come along and start offering all sorts of useful products (a single annuity that pays out 12k extra until SPA then drops?  A product that matches wage inflation instead of CPI?). Until then, all you can do is build a nearest equivalent solution for yourself.
A single bond, TR35 would pay inflation plus 1.6% over 10 years. Or buy TR40 which pays CPI+2%. After 10 years (or at any other time) it is likely you could sell it for an amount roughly commensurate with the expected gain. If the price wasn't what you expected, there's a fair chance that annuity prices would have canceled out the error. The bad news is that you might not get exactly the annuity you hoped for. The good news is that you can get your money back at any time if live intervenes. Or you might get more...

In the US, deferred annuities (called deferred income annuities DIA or QLAC) are available - deferred annuities are even mentioned on some UK insurance company sites, but do not (yet?) appear to actually be available. Unfortunately for the Americans, they no longer have access to CPI annuities only nominal.

An annuity that pays to 67 is already available (fixed term annuity).

I sometimes wonder if the UK references to deferred annuities are actually reference to section 32 buyout policies which were also called deferred annuity policies.  I think they were used for buying out deferred pensions when a final salary scheme wound up but were also available on an individual basis.