Deferred annuities - rates increasing

[pb4uski]

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Originally Posted by pb4uski Not to me. I get a 4.96% IRR if the annuitant lives to be 100. $10,000 today will grow to $26,317 in 20 years at 4.96%. If you then withdraw $1,600 a year from the end of year 20 to the end of year 50 then the $26,317 will decline to zero. The IRR is negative until the annuitant turns 76 and then increases gradually to 4.96% at age 100 and more if the annuitant lives to be older than 100. If annuitant lives to 80, 85, 90 or 95 the IRRs are 2.30%, 3.53%, 4.23% and 4.67%, respectively.

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Originally Posted by NW-Bound ......PS. The deferred period stated in the OP is 14 years, not 20. Then, the $12K will be worth $7565, not $6K as shown above.

With 14 year deferral period instead of 20 (good catch) the returns are better.

The IRR is negative until the annuitant turns 70 and then increases gradually to 6.42% at age 100 and more if the annuitant lives to be older than 100. If annuitant lives to 80, 85, 90 or 95 the IRRs are 4.78%, 5.52%, 5.96% and 6.24%, respectively.

[pb4uski]

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Originally Posted by Onward This does look like a better way to value the annuity. Thanks. What tool(s) did you use to do this? Gotta love life annuities. What other type of investment allows you to increase your returns by doing jumping jacks?

Excel. I set up the cash flows in a column (with the initial single premium as a negative cash flow and the annuity benefits as positive cash flows and then used the IRR function to compute IRRs for each year. EZ.

[Independent]

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Originally Posted by Onward I own a small deferred annuity (MetLife's Longevity Income Guarantee), so this is intereting news to me. I own it as a diversifier of retirement income and as an "insurance policy" in case I live to 110 and/or there is a long period of miserable returns for securities, where 90% of my investments are. Not to hijack the thread, but does anyone here know exactly how to value a deferred, lifetime annuity? In other words, how to compare it (as an investment) with other types of investments like a portfolio of stocks and bonds? I've searched but haven't found a good answer to this.

IMO, this is like asking how to value a fire insurance policy.

We can look at fire statistics and determine probabilities and amounts of claims and compare that to the premium. If we do that, the result is a loss. We know that fire insurance companies collect more money in premiums than they pay in claims. So their customers, in total, must lose.

Even though I know that, I still buy fire insurance.

MetLife's deferred, zero cash value, life annuity is an insurance product. I would buy it if I felt that risk I'm insuring (a long life) is so financially significant that I can't ignore the varying utility of dollars.

A couple people have suggested ways of figuring out the expected dollar trade-offs. That's good information. In the end, the "value" to me has to combine those results with some notion of whether a long life is a serious risk to me.

[ERD50]

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Originally Posted by Independent IMO, this is like asking how to value a fire insurance policy. We can look at fire statistics and determine probabilities and amounts of claims and compare that to the premium. If we do that, the result is a loss. We know that fire insurance companies collect more money in premiums than they pay in claims. So their customers, in total, must lose. Even though I know that, I still buy fire insurance. MetLife's deferred, zero cash value, life annuity is an insurance product. I would buy it if I felt that risk I'm insuring (a long life) is so financially significant that I can't ignore the varying utility of dollars. A couple people have suggested ways of figuring out the expected dollar trade-offs. That's good information. In the end, the "value" to me has to combine those results with some notion of whether a long life is a serious risk to me.

I agree with you that it can/should be looked at as insurance, and IMO normal break-even analysis doesn't apply so much - but we can still make a relevant calculation based on the 'what if' we are insuring against.

For an extreme example to illustrate - if that fire insurance annual premium is 1/2 the cost of the house, we'd figure out a way to self-insure (save up and pay cash for the house, and have replacement funds available).

For more normal rates, we still can evaluate - what is the hit if my house burns down? Can I afford that hit? Do I feel better spreading that risk? Am I willing to pay to spread that risk?

So for annuities, we can look at - what if I do live to 100, 110? And run firecalc scenarios on that, with and w/o the annuity. Just like with delaying SS, I don't think in terms of break-even, I think in therms of my 'what-if' - so what if I live to 100? Can I afford to defer to 70, or does that hurt me too much in the short term? Can I afford to buy the annuity and deplete my portfolio, or does that hurt me too much in the short term? And if I can afford it, am I willing to pay to spread that risk?

-ERD50

[NW-Bound]

In the case of home insurance, my annual premium is less than 0.75% of the home value. Not only does that protect against loss, it also covers theft, rain, hail damages, etc... I know insurance companies make money, still I give them mine. The 0.75% is small enough that I do not have to work hard to justify it.

In the case of annuity, it is not so clear cut in my view. While others are funding their retirement with other financial instruments, if I buy an annuity as an insurance, then I must be hedging against the other instruments failing. The problem is annuity has its own risks, and inflation is one of them. If one buys annuity for financial protection in the case of longevity, then the inflationary effect should be considered, particularly if one plans for more than 3 decades out in the future. Never mind hyperinflation, does it even protect against the historical average inflation, I would ask.

I remember asking for home replacement value from my home insurance. Some policies only pay for the original mortgage amount, and there's no way I can get my home replaced at the price I paid 25 years ago.

[ERD50]

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Originally Posted by NW-Bound ... In the case of annuity, it is not so clear cut in my view. While others are funding their retirement with other financial instruments, if I buy an annuity as an insurance, then I must be hedging against the other instruments failing. The problem is annuity has its own risks, and inflation is one of them. If one buys annuity for financial protection in the case of longevity, then the inflationary effect should be considered, particularly if one plans for more than 3 decades out in the future. Never mind hyperinflation, does it even protect against the historical average inflation, I would ask. ...

This is exactly as I see it. The annuity must be compared to the alternatives.

-ERD50

[Independent]

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Originally Posted by ERD50 I agree with you that it can/should be looked at as insurance, and IMO normal break-even analysis doesn't apply so much - but we can still make a relevant calculation based on the 'what if' we are insuring against. For an extreme example to illustrate - if that fire insurance annual premium is 1/2 the cost of the house, we'd figure out a way to self-insure (save up and pay cash for the house, and have replacement funds available). For more normal rates, we still can evaluate - what is the hit if my house burns down? Can I afford that hit? Do I feel better spreading that risk? Am I willing to pay to spread that risk? So for annuities, we can look at - what if I do live to 100, 110? And run firecalc scenarios on that, with and w/o the annuity. Just like with delaying SS, I don't think in terms of break-even, I think in therms of my 'what-if' - so what if I live to 100? Can I afford to defer to 70, or does that hurt me too much in the short term? Can I afford to buy the annuity and deplete my portfolio, or does that hurt me too much in the short term? And if I can afford it, am I willing to pay to spread that risk? -ERD50

Yes. In the fire insurance case, maybe the premium is 50% of the replacement cost, but I know that I only have a 10% chance of a loss. The insurance company's retention is so high that I'll look hard for an alternative. But, if I know that I have a 45% chance of a loss, I might well say that the 50% premium is acceptable based on all the other things you list.

(This sounds strange for fire insurance because real fire probabilities are so low. But, I think we all tend to think along these lines with LTC insurance.)

Alternate ways of looking at annuities - IRR, FireCalc equivalents, etc. - are all ways closing in on the 10% vs. 45%, and they are valuable for that. I'm just saying they aren't enough. The presence of an insurance company probably means that the average person loses money (in terms of opportunity costs) on these products. If I'm going to buy one, I need to think about what risk I'm insuring and how significant it is (the kinds of questions you've listed).

[obgyn65]

I trust your advice, Meadbh. I decided not to proceed with the annuity.

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Originally Posted by Meadbh True, but if you had an equivalent amount invested in equities, you would be deferring capital gains, assuming a low turnover, and your returns might be higher than with CDs.

[Meadbh]

Obgyn, I'm flattered that you trust my analysis. I'm not sure I want this responsibility! The disclaimer is that I am not a professional financial adviser and my advice is worth only what you paid for it. I will tell you though, that my financial situation is not too dissimilar to yours (I am a little older, already RE, probably with a lower NW and a similar WR to what you are planning) and that I have raised the question of annuities in discussion with my financial advisors as I want to be sure to get all possible perspectives. They think that annuities would be a waste of money for me at this time, but could be revisited in my 70's when there would be more of a survivor advantage, and when presumably rates would be higher. However, I have a higher asset allocation to equities than you do, hopefully with a decent inflation hedge, and this may not be applicable to your current portfolio. My only suggestion to you would be to keep on learning with an open mind, as I aspire to do myself.

[obgyn65]

Yes we seem to be quite similar, although my NW might be only slightly higher if I include the NPV of my SS and two small EU pensions. Please also remember that I worked in EU for many years with a much lower salary, so my NW is not as high as many may think. Like you I do not come to this website to give financial advice, but rather to listen to good advice like yours, eliminate noise and cranky remarks from some other posters :-) , and keep on learning and sharing experiences with those like you whose opinions I trust and value. Thank you, Meadbh.

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Originally Posted by Meadbh Obgyn, I'm flattered that you trust my analysis. I'm not sure I want this responsibility! The disclaimer is that I am not a professional financial adviser and my advice is worth only what you paid for it. I will tell you though, that my financial situation is not too dissimilar to yours (I am a little older, already RE, probably with a lower NW and a similar WR to what you are planning) and that I have raised the question of annuities in discussion with my financial advisors as I want to be sure to get all possible perspectives. They think that annuities would be a waste of money for me at this time, but could be revisited in my 70's when there would be more of a survivor advantage, and when presumably rates would be higher. However, I have a higher asset allocation to equities than you do, hopefully with a decent inflation hedge, and this may not be applicable to your current portfolio. My only suggestion to you would be to keep on learning with an open mind, as I aspire to do myself.

[munnyman]

Saw this report on variable annuities. Are any of you with them concerned about their ability to pay?

Unpredictable behavior by variable annuity policyholders will continue to pressure US life insurers going forward, says Moody’s Investors Service in its new special comment, “Unpredictable policyholder behavior challenges US life insurers’ variable annuity business.”

Moody's: Unpredictable policyholder behavior challenges US life insurers' variable annuity business

[munnyman]

I received this letter from a financial advisor who has never been positive on Annuities, but it contains info that some of you might not know:

'Hartford Insurance has issued a letter to its variable annuity investors warning that the guarantee will be revoked if they don’t have 40% in bonds. Apparently Hartford has a contractual right hidden within the pages of the prospectus. Most investors need a doctorate to understand what they’re signing up for with variable annuities. In this case, as is most often the case with variable annuities, the investor loses.

Annuity Guarantee “WILL BE REVOKED” | YoungResearch

[munnyman]

I recently came across an interesting Wall Street Journal article on the topic of variable annuities…….

At least five big insurers have advised annuity owners over the past 16 months they won't accept, or are restricting, additional money destined for older contracts with the richest guarantees. They're acting under fairly standard provisions of insurance contracts that give insurers such leeway, but which rarely, if ever, have been exercised in the past, financial advisers say. It is the latest in a series of measures by the insurers "to rein in risk" in the wake of costly lessons learned in the 2008-09 financial crisis, says Kevin Loffredi, an analyst at Morningstar Inc.

http://online.wsj.com/article/SB1000...836951100.html

[obgyn65]

Hello Munnyman - please note fixed deferred annuities are different from variable annuities. Please feel free to start a different thread about variable annuities.

[pb4uski]

+1 Plus, his middle post is already the subject of another thread.

[MichaelB]

In addition, I've edited all three posts and included links to ensure compliance with copyright regs.

Edit to add: Information on copyright regs can be found in community rules here http://www.early-retirement.org/foru...ork&page=rules and Gumby's excellent sticky here http://www.early-retirement.org/foru...ste-62748.html

[pb4uski]

Much better, did you give him a spanking too?

[MichaelB]

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Originally Posted by pb4uski Much better, did you give him a spanking too?

Nah, you and Oby already did that.

[thanp73]

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The problem is annuity has its own risks, and inflation is one of them. If one buys annuity for financial protection in the case of longevity, then the inflationary effect should be considered, particularly if one plans for more than 3 decades out in the future. Never mind hyperinflation, does it even protect against the historical average inflation, I would ask. ...

No annuity will protect you from inflation. But using annuities wisely accounts for inflation the best way we can. Gotta make reasonable assumptions AND preserve some liquidity/ hyperinflation protection. Not sure what that is exactly.... some say real estate, others say gold, and many say brass and bullets!

I have a client who use the Met and NY Life deferred income annuities referenced at the beginning of this thread to great effect- his mother lived past $100, and he plans to live longer than that, so he put $250K into LIG products in his late 40's.

He computed his current day spending needs, then inflated it 3% per annum to age 80, 85, and 90, and laddered three contracts to top out at over $350K/ year at age 90.
(what a 90 year old will do with $350K is another question!)

Anyway, knowing that his longevity risk was now insured, he planned spending down the rest of his money over the next 30+ years. He COULD plan the exact day to spend his last dollar as these contracts picked up the slack.

Incidentally, assuming he lived to age 100, I calculated a blended IRR of 9.6% on these longevity contracts. Jumping jacks and other tricks may make him get a better IRR/live longer.

I use TValue to do discounted math. Way quicker than excel, but u can check it by exporting to excel and doing an XIRR on the payment stream and dates.

[REWahoo]

thanp, things must be really slow in the annuity sales business up there in NW Montana if you're coming here looking for clients.

E-R.org isn't known as a warm and fuzzy place when it comes to folks in your line of work, but it is the holiday season so maybe this time it will be different...