Billy Burrows: Falling annuity rates call for new solutions
Annuity rates have fallen again as corporate bond and gilt yields plummet and rates are down by an average 5 per cent since the start of June.
Annuity rates have been in decline since 1990 and there seems to be no end in sight to this downward trend, even though rates have recovered slightly in the last few years.
Looking to the future, the likely result is that even though gilt and corporate bond yields may rise, the full benefit from any increase is unlikely to be passed on to annuitants as the factors listed above will apply downwards pressure on annuity rates
One of the consequences of falling rates is that it is causing a re-evaluation of annuities’ value for money and the appropriateness of the traditional guaranteed annuity as the best way to pay a pension income for 20 or more years.
Guaranteed annuities will remain the preferred option for those with small pension funds because they often cannot afford to take risks with their pension funds.
However, there is a group of retired investors with bigger pension funds who should question whether it is sensible to invest all their pension pot into a guaranteed annuity because the returns are so low and the investor is locked into that rate for the rest of their life.
People should stop asking, ’where can I get the highest annuity’ and ask, ’how do I buy the right type of annuity’
Do not get me wrong, I still argue that a lifetime annuity is a hard act to meet if the objective is to maximise income. It is just that many people have other objectives as well.
These other objectives include flexible income options to cope with the changing patterns of retirement, potential for future income growth to help combat the effects of inflation and choice of death benefits to deal with more complex family situations.
Many investors concerned about low annuity rates and the inflexibility have turned to pension drawdown but the recent volatility in global equity markets has exposed the risk to drawdown plans which do not have an appropriate investment strategy.
So if traditional annuities are too expensive (income too low) and drawdown too risk, what should investors do?
One of the answers is to consider a combination of annuities, for example, part guaranteed and part investment linked or for a fixed term. There is nothing new about this approach as I have written about portfolio annuities before. What is new is that there is a generation of people approaching retiring who are experiencing financial and personal circumstances far different to those which faced previous generations.
So, when buying an annuity, I encourage people to stop simply asking: “where can I get the highest annuity” and start asking “how do I buy the right types of annuities”.