Will Jodie Whitaker, the 13th Doctor Who, also be an annuity enthusiast? She probably will, says Patrick Ingram, Retirement & Investment Specialist at Parmenion.
When Dr Who first aired in 1963, William Hartnell was only 55 years old. He may well have considered investing in an annuity when he retired. Of course, among Time Lords, who tend to be extremely long lived, a purchased life annuity is a very popular choice for retirement income.
However, there is one exasperating catch for annuitants born on Gallifrey. They do have to repeatedly verify their identity and pass AML checks after each regeneration. Will Jodie Whitaker, the 13th Doctor, also be an annuity enthusiast? She probably will, is my answer.
Attractions of guarantees
Since pensions freedom, the volume of annuities sold in the UK has fallen sharply from a level of around £7bn just before the changes to around £5bn in 2016. Could the trend in sales recover?
In short, our view is that annuities remain an important and attractive option for many of us in retirement, and should not be overlooked or ignored, especially for clients with low-risk tolerance or poor understanding of investments (financial capability).
Loss aversion
It is probably true that the principal reason for the fall in levels of annuity purchase is the powerful psychological appeal of being able to keep hold of your money. This is a key factor for some in the defined benefits transfer dynamic.
Unfortunately, our fallible human equipment makes us prey to a number of weaknesses. George Osborne encouraged one of these when he spoke of pensioners buying a Lamborghini. Some people can’t stop spending and excuse these bad habits when doing mental forecasts by ‘hyperbolic discounting’ of future liabilities, almost waving them away. This is another ‘behavioural bias’, along with lack of empathy for future self. These biases form part of a landscape in which a bird in the hand seems better than two invested in the market.
Present value analysis
So are annuities providing good value on a discounted cash flow basis? Taking a look at annuity rates provides us with figures on single lives without escalation, guarantee or inflation uplift, of £5,370 at age 65 and £6,917 at 75. If that £100,000 annuity cost was invested instead in a UK gilt portfolio (with no risk to capital) and stripped down at the amount each year, how long would the money last? Yields on 25-year gilts are currently around 1.7%. Using this discount rate, and taking out £5,370 a year, the capital would last just a little over 22 years, and £6,917 would carry the investor for 16 and a half.
Life expectancy
Life expectancy at 65, well covered by ONS data, allows us to check the odds of an individual surviving for 22 years. At first glance, the conclusion is that the annuity looks a poor deal. The average UK male of 65 lives till 83 (18 years) and the average lady to 86 (21 years). How might it make any sense to buy the annuity?
Returning to Jodie Whitaker’s case, the answer lies in a rational consideration of the risk of living well past average mortality. If she believes she will be among the 25% of women living to 93 – or more – the investment analysis changes dramatically. The present value of £5,370 a year from a gilt portfolio to last from 65 to 93 is over £124,000, making that £100,000 annuity purchase cost look compelling. Making it to 100, to get the telegram, and the discounted value of the income stream increases to a handsome £146,000.
A further point. Most advisers work with wealthier, therefore healthier people. The average numbers include all those whose lives have been less fortunate.
It’s not a man’s world
For men, who don’t live as long, these are substantially less likely outcomes. For every man reaching 100, nearly 3 women are living that long. This has a particular bearing on decisions about annuities part way through retirement.
Using the figure above, a man taking a life time income of £6,917 at 75, assessed against the same gilt yield, must live till nearly 91 to break even, something only a quarter of men are likely to achieve, but 35% of women can expect to do. In fact, the average male at 75 can’t expect to live beyond 86 – just 11 years. What future for the 2012 EU Gender Directive, we have to ask?
Exterminate
Without a full working Tardis, our assessment of the future is an imperfect art. What is clear from some of these insights is that there will be many happy nonagenarians congratulating themselves on buying annuities in their later 70s, with few grounds for complaint. Many of those who might feel aggrieved by the decision will not be around to complain (unless they can regenerate).
Unhappily, the incensed family and friends of the unsuccessful 90-year investor with no secure income will, I imagine, be loud in their calls for redress.
About Patrick Ingram
Patrick is Parmenion’s Retirement and Investment Specialist and joined the group in 2009. He has experience of private client discretionary management and wealth management consolidation, in a number of AIM quoted companies. He was previously CEO of Rowan & Co and Finance Director of Seymour Pierce Group plc. Patrick graduated with degree in History from Oxford University in 1981, trained as a Chartered Accountant with KPMG, and holds the ASIP investment research qualification.
