Investment - Articles - Annuity rates fall by 6% since start of the year


Recent figures indicated that annuity rates had fallen 6% since the start of the year, meaning people buying an annuity today, would be 6% worse off than those who bought just a few months ago

 By Steven Cameron, Regulatory Strategy Director at Aegon: 
 Annuity rates reflect gilt and corporate bond yields which are currently very low compared to historic levels
  
 The amount you get also goes down the longer people are expected to live, and life expectancies continue to rise
 Pension reforms enable people to take a more flexible income and current low annuity rates mean flexi-access drawdown is likely to have greater customer appeal
  
 “Analysis of the annuity market has found that the amount of income people can secure from their pension pots has fallen around 6% since the start of the year. This is primarily a result of investment yields falling further. When a provider offers a customer an annuity, they are promising to pay them a guaranteed income for the rest of their life. That’s a serious commitment and the provider has to invest the saver’s money in assets that can safely generate the income to honour the promise. That means they will invest your pension fund in long term Government gilts and high quality corporate bonds which offer reliable returns. If the return or ‘yield’ on these types of assets is low, then so is the annuity income the provider can offer. At the moment, these yields are at a historically low level. That, coupled with continued improvements in life expectancy are the key reasons why annuity rates are also lower than in previous years.
  
 “To give an example, long gilts and bonds could typically generate yields of just over 2% today. A 60 year old in good health with a fund of £100k who shops around might get an annuity which increases in line with inflation of around £2,400 a year.
  
 “But if yields on gilts and corporate bonds were to be 5%, the same individual might be able to secure an annuity two thirds higher at around £4000 – a difference of £1,600 purely because of investment yields.
 “With the incomes people can secure through an annuity currently at historic lows, individuals may be more likely to consider the alternatives they have under the new pension flexibilities that came in on 6 April. For example, flexi-access drawdown allows you to take a regular income from your pension pot while leaving it invested where you or your adviser choose – in other words, without having to lock into low yielding gilts and bonds.
  
 “But the big question for many people considering drawdown, is how much can you safely take from your drawdown policy each year if you hope to be able to sustain that level through your retirement? This depends on the investment yield you think you’ll get over your future lifetime from where you choose to invest your pot.
  
 “There’s no easy answer to this, but from the example above, if you think you’ll get a 5% yield perhaps from investing in equities, you certainly shouldn’t be taking any more than 4% as a starting income and even then, you could run out of money of you live longer than the ‘average’ 60 year old.
  
 “There’s a clear trade-off between annuities and drawdown. On the one hand annuities are inflexible and rates are currently low. However, they do provide a guaranteed level of income for life. On the other hand, drawdown provides flexible investment options and the opportunity to vary income levels, but people need to decide how much income to take to avoid a situation whereby they run out of money.
  
 “Many people may choose to have some of both. And to better meet customer needs, we expect we’ll begin to see new forms of flexi-access drawdown products that offer some form of guarantee that money won’t run out.”

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