Annuities arouse strong emotions in many investors. Some despise them, others won’t consider anything else – and, I’ve noticed, few of these antagonists are able to back up their views with hard data and logical argument. In many cases, it seems that many investors will strongly deprecate Straight Preferred shares, while expressing adoration for annuities simply because the price of Straights is so volatile … ignoring the fact that the price of annuities is also extremely volatile, but since it is not reported honestly to the purchaser nobody notices. It’s a lot like GICs!
In this 2010 essay (which builds upon the PrefBlog post Preferred Shares & Annuities) I looked at annuities as a component of a retirement portfolio and concluded in part:
They are a lousy investment, but they are great insurance!
There is a follow-up article available via Annuities, Part 2.
Look for the research link!
Thank you for the tour through your back catalog with these series of posts, James!
There were a number of good zingers here, such as on the cost of highly structured products and this comment on the prospective purchaser hoping his or her healthy living will enable pulling a fast one over the insurance company:
> It should be apparent from the above discussion that annuities are a lousy investment. A seventy-five year old man can expect to achieve a yield of only 2.12% given average life expectancy. Even if he considers himself particularly healthy relative to his peers the expected returns are not particularly impressive, since the wickedness of the world is such that everybody else has already thought of that trick and the insurance companies have incorporated their adverse selection risk in
their pricing. They are a lousy investment, but they are great insurance!
I am quite interested in the combination of discount preferred shares (security of income!) in combination with an annuity and CPP/OAS to provide a very secure, very long-lived core to my retirement income plan (e.g. the food and lodging money). The travel money then comes from the remaining principal (which can be mostly equities with a cash buffer).
It would be interesting to revisit the preferred vs. annuity pricing analysis now that deferred annuities are available in Canada. Buying a deferred annuity seems a more effective (and hopefully cheaper) tool to insure against longevity risk than an immediate annuity, especially if you are buying at, say, age 55 or 60. That gives one more cash to safely spend earlier on other things.
Tim
I am quite interested in the combination of discount preferred shares (security of income!) in combination with an annuity and CPP/OAS to provide a very secure, very long-lived core to my retirement income plan (e.g. the food and lodging money).
A good plan! Just remember that preferred shares do have a default risk … not very high, but greater than that on annuities … CPP/OAS is probably about as secure as we’ll ever find in this world.
The trouble with writing about annuities is obtaining data – the industry keeps its data under lock and key, because they want you to call an agent for information so you can be sold something. However, I’ve just learned of another possible source and who knows? Maybe there will be another essay in the near future!
I agree that a deferred annuity will – in principle, subject to pricing – provide the best longevity insurance for most people, but the mind boggles at obtaining data for that product!
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