Retirees’ demand for more predictability and security in their retirement income has led an increasing number of financial advisors to look to annuities as way to provide more stability in their clients’ investment portfolios. They are also looking to annuities as a way to replace the third leg of the retirement income stool as a guaranteed lifetime income. Retirement planning occurs in different phases and at different stages of peoples’ lives. Depending on what stage of life a person is in, there is different kind of annuity that is best suited for their situation.
Adding Portfolio Stability with Fixed Indexed Annuities
Offering minimum guaranteed rates along with the potential for higher earnings based on the performance of the stock market indexes, FIAs have become increasingly popular in a low interest rate environment. With the prospect of rising interest rates, which can increase portfolio volatility, advisors are turning to fixed indexed annuities (FIA) for a portion of their bond portfolio. FIAs offer protection from bond and stock market declines while retaining the fixed income nature of bonds. Although the upside is limited on FIAs, investors covet the minimum rate guarantee and the benefit of locking in and preserving their gains.
A Guaranteed Lifetime Income with Single Premium Immediate Annuities
Single Premium Immediate Annuities (SPIA) have always been the vehicle of choice for investors who covet predictability and security. They are one of the only types of investment vehicles that can manage longevity risk and guarantee a lifetime income stream, much like a guaranteed pension. An SPIA provides a baseline for an income portfolio, a guaranteed income that is independent of both market and interest rate volatility. When included as a part of an overall investment portfolio, an SPIA provides the foundation of an income strategy upon which a range of investments can be layered to create capital growth and increasing income.
Some advisors suggest that it is better to wait until interest rates increase and/or investors wait until they’re older because they could lock in a higher lifetime monthly payment. Some advisors are employing a laddering strategy, purchasing SPIAs at different stages of retirement to capture higher interest rates and a higher payout rate based on the investor’s increasing age.
Maximizing Future Income with Deferred Income Annuities
Deferred income annuities (DIAs) are a more recent innovation capturing the attention of advisors and investors who want to maximize future income while protecting against extended longevity. DIAs can be especially effective for investors who have no need for an immediate income stream, but they anticipate a bigger need for income in the future. It is sometime referred to as longevity insurance because it can be set up to turn on an income stream at a much later age. It is purchased with a lump-sum payment at an earlier age.
Using current interest rate and actuarial assumptions, the amount of future payout can be substantially higher because the insurance company assumes a shorter period for monthly payments. The advantage of a DIA over an SPIA is that the same amount of monthly payout can be purchased with less capital because of the time that passes between the purchase and the payout. If an investor dies before receiving any of the payout, a cash-refund, if purchased as an option, is paid to the DIA beneficiary.
Annuities are certainly not a cure-all for the challenges facing investors today and they are definitely not a one-size-fits-all solution. However, when considered in the context of a well-conceived retirement plan, their unique properties can help investors achieve things like no other financial instrument.