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Design of the times

Quantitative easing, stretching longevity and low rates are adding to annuitants’ woes but at least product providers are being innov-ative. Report by John Greenwood

For hundreds of thousands of pensioners, falling annuity rates have been one of the more serious effects of the economic downturn. But the extent of product development in the at-retirement market shows that the industry cannot be accused of overlooking the needs of retirees.

With Aviva, MGM Advantage and LV= looking at product innovations, advisers should soon be able to offer clients greater choice outside the traditional annuity market.

The Bank of England’s quantitative easing policy and further stretches to longevity predictions have combined to pile the misery on annuitants, many of whom have been crystallising benefits at a time when their DC pots have already taken a hammering.

In September 2008, before Lehman Brothers filed for bankruptcy, a £100,000 pot would buy a non-smoking 60-year-old male a level income of £7,040.

Roll forward 14 months and the best available income has fallen to £6,300, a drop of 10.5 per cent, according to figures from Alexander Forbes Annuity Bureau.

As Government fiscal policy puts more pressure on gilts, the arguments for opting for an asset-backed annuity should be increasing but experts agree that the public’s perceptions of what has happened over the last 18 months means that there has possibly never been a harder time to sell equity-linked products to annuitants. And with escalation proving so expensive now, advisers are still seeing the majority forgoing inflation protection despite warnings that the unravelling of quantitative easing could seriously erode the value of their income over time.

Alexander Forbes Financial Services proposition director Tim Whiting says: “The overwhelming majority of people still want the level option when it comes to annuities. Even though the figures may show that 71 or 72 is the break-even point for taking the inflation protection and Glaxo may invent a pill that keeps you alive until you are 200, people don’t want to take the hit in the early years.

“With-profits or other asset-linked annuities are one way of dealing with the long-evity problem, especially in light of the massive reductions in gilt yields. Quantitative easing is really hammering annuity rates and looking for some investment element makes an awful lot of sense. But that involves people taking risk, when their experience of markets over the last year has been terrifying. Going into the stockmarket at a time like this is counter-intuitive for a lot of people.”

The Retirement Partnership director Billy Burrows agrees that investors have less stomach for the risk that equity-linked annuities entail. Burrows says: “I see a flight to qual-ity. Forget what anyone tells you about interest in asset-backed annuities being on the increase. If people are in annuities, they are going for straightforward level prod- ucts and many of those in drawdown are largely in cash.”

Burrows concedes that Prudential’s Income Choice product has gained some traction but believes interest has come from those taking a step away from drawdown rather than those previously likely to take a conventional annuities.

Prudential head of business development for pensions Vince Smith-Hughes says people can be attracted out of drawdown when they realise what mortality drag is doing to their retirement planning.

Smith-Hughes says: “Once you get over age 70, there is a 2 per cent difference between the return you need from drawdown and that required from an asset-linked annuity to generate the same income. But there are, of course, better death benefits and income flexibility with drawdown.”

Experts do see mileage in fixed-term products that allow an investor to draw an income and guarantee their principal sum while keeping their options open. Consumers can easily understand that they could enhance their annuity income if some form of ill-health takes hold before the age of 75 and advisers have welcomed the news that both Aviva and LV= are planning to launch fixed-term products to compete with current sole operator Living Time.

But MetLife has moved to counter reports that it intends to join Aviva and LV=, saying that while it has an ambition to launch in the sector, it remains no more than that at present.

Living Time managing director (sales & marketing) Dave Harris says the near 50 per cent rebound in share prices from last March’s trough is offering traumatised investors an acceptable exit route into something more stable.

He says: “We are coming across more and more ‘distressed drawdown’ cases who feel the rise in equity markets has given them some room for manoeuvre but who are adamant that they don’t want to put themselves through the rollercoaster again.”

Another trend emerging as clients battle with the risk/reward dilemma is interest in taking more than one annuity. Burrows says: “Some people are buying several annuities and therefore spreading their risk around. It could be 50 per cent level and 50 per cent inflation-linked or with an element of with-profits in there such as Pru’s Income Choice which seems to be gaining some traction.”

Splitting your pot across several annuities becomes more attractive the more choices you have. Advisers and clients may not welcome the current rates on offer but at least they can look forward to some product innovation.

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