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Is it a good time to purchase an annuity?

I had a good idea for the story last week:“ is now a good time to purchase an annuity”?

The thinking was that now fund values have increased since the March 2020 crash it might make sense for some people, especially those with relatively small drawdown pots, to purchase an annuity.

Increased annuity sales

I understand from several annuity providers that annuity sales have increased significantly so it will be helpful to see if there is a case for purchasing annuities at the moment.

Annuity rates and fund values

As someone who watches annuity rates on a daily basis, I am well aware that annuity rates have fallen since the beginning of the year and bond yields are very close to the all-time low. But it is important to remember that the amount of annuity income is the product of both the annuity rate and the value of the pension pot.

This means that if annuity rates have fallen but fund values have increased it might make sense to purchase an annuity at current levels.

See the annuity charts

Annuity purchasing power in 2020

The table below shows the amount of annuity income that could have been purchased every month since January 2020 starting with a pension pot of £100,000 and using my benchmark annuity.

Date

Pension Pot

Annuity

Income

01/01/2020

£100,000

4.19%

£4,188

01/02/2020

£99,705

4.04%

£4,030

01/03/2020

£95,322

4.02%

£3,836

01/04/2020

£84,088

3.92%

£3,293

01/05/2020

£89,690

3.96%

£3,548

01/06/2020

£93,543

3.93%

£3,676

01/07/2020

£94,895

3.84%

£3,646

01/08/2020

£94,916

3.86%

£3,666

01/09/2020

£96,395

3.89%

£3,754

 

The benchmark annuity is joint life 2/3 rds for a couple aged 65 and 60 with level payments and the fund value is the (ABI) Mixed Investment 40%-85% Shares (Pen).

This means somebody with a £100,000 on 1 January and invested in a typical medium risk multi-asset fund would have seen their pension pot fall to a low of £84,000 in April before bouncing back to £96,400 in September. This is a fall of about 3.6%.

On the other hand, the benchmark started the year at about 4.2% and has fallen consistently to about 3.9%. This is a fall of about 7%.

Taken together this is a combined fall of 10% in annuity income.

Obviously care needs to be taken in analysing this data because people will be invested in different funds. Somebody invested in cash would have only seen the annuity income fall by 7% and anyone lucky enough to have seen their fund increase in value would have fared much better.

This suggests to me that anybody purchasing an annuity today (September 2020) will be getting about 10% less annuity income compared to the beginning of the year.

Does it make sense?

On the face of it, it doesn’t make sense to lock into a 10% loss of income but there are a number of reasons why annuity sales are increasing:

  • People are finding it too stressful to remain invested in equities
  • Retirees are attracted to the peace of mind and security of an annuity
  • Investors are worried there could be another stock market crash

All of these reasons make sense providing all of the relevant information and circumstances have been taken into account but it highlights the risk of rushing into an important financial decision without taking expert advice.

This begs the question, “what would be my advice”?

My thoughts

It goes without saying that advice is based on individual circumstances but in general terms I will be making the following points:

  • Annuities are unlikely to increase significantly over the coming months even years as interest rates remain at historically low levels
  • I am concerned that there may be another significant fall in equity prices
  • However, in the longer term both fund values and annuities should improve
  • There are alternatives to lifetime annuities e.g. fixed term income plans

Taking all of this into account, I conclude there is a case for converting smaller pension pots (including drawdown) into annuities although the annuity income is lower than at the beginning of the year.

For those with larger funds there may be a case for using part of the pension pot to buy annuities.

Other options

I fully understand the reasons for bailing out of the risky stockmarket to the safety of an annuity but don't rush into purchasing an annuity without taking specialist advice because there are other alternatives to purchasing a lifetime annuity.

For example, it might make sense to look at a fixed term income plan (fixed term annuity). The analysis above suggests to me that these may be a better option for those wanting to move out of equities into guaranteed income because they will not be locking into our loss at the current time.

There is no guarantee that at the end of the fixed term you will be able to secure a higher annuity income but you will be keeping your options open.

Read about fixed term income plans

William Burrows

About the author

William Burrows

Billy Burrows has been involved with retirement options for over 20 years, advising clients on all aspects of pensions and retirement income options.

He divides his time between advising individual clients as Retirement Director at Better Retirement and running Retirement IQ, which publishes guides including the popular ‘You and Your Pension Pot’ and ‘The Retirement Journey’.

He is frequently quoted in the national press and appears on radio, podcasts and videos and writes extensively on retirement income matters.

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