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Old 01-13-2016, 11:18 AM   #41
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Sure, but the key point is your belief might be wrong. This "risk" prevents you from spending as much as you might otherwise be able to. Having some steady income to cover some or all of you base expenses in retirement is a very good thing. Issue is, at what cost. The simple annuity product is a very powerful one the issue is cost.
That's really the crux of the argument. It all comes down to asset allocation, which is determined by your risk tolerance, faith in markets and estimation of return, volatility and how those interact with you generation of income. My attitude is I want a guaranteed floor of income and with rent, a pension and two SS checks I have that well covered and have inflation adjustment too. This allows me to take risk with the rest of my assets. There are other solutions ranging from 100% ETFs to 100% annuities, everyone is different. I'm using 18% of my portfolio to buy into my pension so I can take risks with the rest and sleep well at night.
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Old 01-13-2016, 02:34 PM   #42
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How can pensions offer such large COLAs and annuites cannot? Do the pension plans invest better than the insurance companies?
Pensions typically invest 60% or so of their assets in equities and alternative investments. Insurers issuing annuities would typically invest little in equities (1-2%... in part because the capital requirements to invest in equities are high) and virtually none of those investments relate to payout annuities... they are all backed by bonds. IMO the difference is driven by the difference in the liabilities (COLAed vs not).
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Old 01-13-2016, 02:43 PM   #43
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Would that mean annuities are quite a bit safer than pensions?
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Old 01-13-2016, 03:04 PM   #44
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It depends on what pensions. Government pensions no problem. Private pensions always at risk.
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Old 01-13-2016, 03:20 PM   #45
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It depends on what pensions. Government pensions no problem. Private pensions always at risk.
And also who is paying the annuity.
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Old 01-13-2016, 03:41 PM   #46
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Would that mean annuities are quite a bit safer than pensions?
It depends on the financial strength of the pension fund (and sponsor) and of the annuity issuer. Can vary from no concern to dreadful.

My only point was that the funding is a function of the obligation. Part of the reason that we don't see a lot of COLAed annuity products is because the market for adjustable rate bonds is thin so it is difficult to find assets that match the obligation on a large scale.
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Old 01-13-2016, 03:48 PM   #47
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It depends on what pensions. Government pensions no problem. Private pensions always at risk.
Yes indeed. Just tell that to folks with State of Illinois pensions where the legislators who forgot to fund pensions for decades are now working tirelessly to reduce pensions already being paid to long retired employees as the solution.
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Old 01-13-2016, 04:12 PM   #48
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Old 01-13-2016, 04:26 PM   #49
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It depends on what pensions. Government pensions no problem. Private pensions always at risk.

I think the Detroit city pensioners would disagree. And some of the folks in Illinois might be more worried than others.


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Old 01-13-2016, 04:47 PM   #50
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Yes, the treasury will give you 3% a year and if held for 30 years you get your principal back. The annuity will give you 5% a year for your life, but you have lost your principal.
in realty the immediate annuity gives you back your own money at a higher cash flow rate then you can take it from yourself .

an immediate annuity has no interest rate . it only has an implied fictitious rate of return the irs uses from a life expectancy chart for tax purposes .

so you give the annuity company 100k and they give you 6k a year . 16 years later you have all your own money back

now you go on their dime and get your first dollar of return .

so lets look at a portfolio of 200k consisting of 100k in an annuity and 100k in stock vs 100k in bonds and cash and 100k in stock .

trying to match that 6k cash flow from the annuity from bonds and cash will deplete them to zero and require refilling from equity's .

the 6k annuity will never end reducing the need to sell as much in equity's .

unless your own investing has the most favorable sequences odds are the annuity /equity's will give you more cash flow and depending on how long you or a spouse live more for heirs.

the annuity has no sequence risk which allows you to spend all of it keeping no powder dry for poor sequences .

on our own we have to keep a lot of powder dry because poor sequences can leave us with near zero left at the end of 30 years to more than 2x what we started with .

that money can't be spent up front since we don't know our final outcomes .

the annuity has no sequence risk like our portfolio's do so they provide a higher cash flow ..
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Old 01-13-2016, 09:57 PM   #51
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I ran your two scenarios in Firecalc with both scenarios looking to spend $8k a year for 40 years (4% WR) to age 100. SPIA for a 60 year old pays ~6% so I used a 40 year time horizon.

Scenario 1: $200k invested 50% stocks/50% bonds. Results are as follows:

Quote:
FIRECalc looked at the 105 possible 40 year periods in the available data, starting with a portfolio of $200,000 and spending your specified amounts each year thereafter.

Here is how your portfolio would have fared in each of the 105 cycles. The lowest and highest portfolio balance at the end of your retirement was $-166,024 to $1,095,060, with an average at the end of $209,190. (Note: this is looking at all the possible periods; values are in terms of the dollars as of the beginning of the retirement period for each cycle.)

For our purposes, failure means the portfolio was depleted before the end of the 40 years. FIRECalc found that 28 cycles failed, for a success rate of 73.3%.
Scenario 2: $100k stock portfolio and SPIA that pays $6k a year. Results are as follows:

Quote:
FIRECalc looked at the 105 possible 40 year periods in the available data, starting with a portfolio of $100,000 and spending your specified amounts each year thereafter.

Here is how your portfolio would have fared in each of the 105 cycles. The lowest and highest portfolio balance at the end of your retirement was $-377,883 to $3,265,272, with an average at the end of $559,850. (Note: this is looking at all the possible periods; values are in terms of the dollars as of the beginning of the retirement period for each cycle.)

For our purposes, failure means the portfolio was depleted before the end of the 40 years. FIRECalc found that 20 cycles failed, for a success rate of 81.0%.
What I found interesting is that the stock/SPIA combination had much more volatility than stock/bond combination... I suspect because stocks and bonds are generally uncorrelated. It was surprising that the SPIA/stock combination had a higher success rate.
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Old 01-13-2016, 10:12 PM   #52
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What I found interesting is that the stock/SPIA combination had much more volatility than stock/bond combination... I suspect because stocks and bonds are generally uncorrelated. It was surprising that the SPIA/stock combination had a higher success rate.
Pfau came up with a similar result when he compare stock and SPIA portfolios to stock and bond ones. This is why I've taken the approach to buy into a pension plan starting at 55 so that I can have a high stock percentage that i will allow to increase over time.
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Old 01-13-2016, 10:25 PM   #53
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I ran your two scenarios in Firecalc with both scenarios looking to spend $8k a year for 40 years (4% WR) to age 100. SPIA for a 60 year old pays ~6% so I used a 40 year time horizon.

Scenario 1: $200k invested 50% stocks/50% bonds. Results are as follows:



Scenario 2: $100k stock portfolio and SPIA that pays $6k a year. Results are as follows:
Could you explain how you modeled the SPIA? Specifically--how is the SPIAs "value" accounted for in the ending figures (since the money isn't owned by the retiree, he only has claim to the remaining annual payments, which won't be many for a 100 YO recipient). At the end of 40 years, the SPIA in Scenario 2 is worth very little, (even moreso if he dies before the 40 years, the SPIA value becomes zero, barring any "certains")and the bonds in Scenario 1 should be worth quite a bit. They both started with the same amount of stocks, maybe any higher terminal value of Scenario 2 is because the stocks weren't tapped as much to pay out withdrawals due to the higher "yield" of the SPIA (compared to the bonds in Scenario 1)?
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Old 01-14-2016, 12:59 AM   #54
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What I found interesting is that the stock/SPIA combination had much more volatility than stock/bond combination... I suspect because stocks and bonds are generally uncorrelated. It was surprising that the SPIA/stock combination had a higher success rate.
Yep. Unlike a 50/50 stock/bond split, you're not exactly rebalancing between stock/SPIA.

Interestingly enough, here are the results of SPIA + 90/10 portfolio:
Quote:
FIRECalc Results

Your spending in every year after the first year will be adjusted for inflation, so the spending power is preserved.

FIRECalc looked at the 105 possible 40 year periods in the available data, starting with a portfolio of $100,000 and spending your specified amounts each year thereafter.

Here is how your portfolio would have fared in each of the 105 cycles. The lowest and highest portfolio balance at the end of your retirement was $-339,519 to $2,637,344, with an average at the end of $464,151. (Note: this is looking at all the possible periods; values are in terms of the dollars as of the beginning of the retirement period for each cycle.)

For our purposes, failure means the portfolio was depleted before the end of the 40 years. FIRECalc found that 19 cycles failed, for a success rate of 81.9%.
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Old 01-14-2016, 04:00 AM   #55
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Originally Posted by pb4uski View Post
I ran your two scenarios in Firecalc with both scenarios looking to spend $8k a year for 40 years (4% WR) to age 100. SPIA for a 60 year old pays ~6% so I used a 40 year time horizon.

Scenario 1: $200k invested 50% stocks/50% bonds. Results are as follows:



Scenario 2: $100k stock portfolio and SPIA that pays $6k a year. Results are as follows:



What I found interesting is that the stock/SPIA combination had much more volatility than stock/bond combination... I suspect because stocks and bonds are generally uncorrelated. It was surprising that the SPIA/stock combination had a higher success rate.

most study's came up with similar conclusions . the higher cash flow initially of the spia allows the equity's portion to grow longer before refilling .

in all but the best outcomes the spia had a better success rate and in many cases more money left for heirs .

folks don't realize that over time they really are depleting the cash and bonds in their own portfolio to zero in effect before refilling . we may not actually let them get to zero in practice before refilling but then we have to sell equity's sooner to refill . the end result is the same .

using spia is really the reverse .

you have your own money in the beginning when you invest on your own and over time cash and bonds trend down to zero .

with the spia you start at zero and over time get your money back , eventually getting all your money back 16 years later and then going on their dime .

if you picture letting cash and bonds go to zero and then refilling using conventional investing on your own the spia equity combo never goes to zero so the baseline income always holds so less equity's have to be sold to refill .
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Old 01-14-2016, 04:11 AM   #56
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the more conservative the portfolio the more the spia can help .

other study's have shown that using an spia , your own investing and permanent life insurance can provide even higher success rates .

in all but the best outcomes or early death , 67% of the time that integrated strategy beat by term and invest the rest 67% of the time .

in 100% of the time it provided higher initial incomes and 67% of the time higher incomes and a higher balance for heirs .
in all cases buy term and invest the difference had a higher balance at the start of retirement but that is where it ended .

unlike a joint spia which is taxable , a single spia and life insurance for the spouse pays a higher draw and is 100% tax free .

that made a big difference most of the time .
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Old 01-14-2016, 04:12 AM   #57
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It seems like a 50% stocks and 50% non cola spia will do better in the beginning of retirement when withdrawals from an otherwise poor market condition non-spia portfolio might be at risk of early depletion. However, later in retirement, because the spia is non-cola, inflation must be made up for entirely by the stock side. So the stocks have to increase in value double duty, once for themselves and once for the spia. Towards end of life the spia income becomes a much smaller portion of the total income. Like perhaps 1/8 vs 1/2 in the beginning of retirement. This does not seem like a good plan to me.

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Old 01-14-2016, 04:16 AM   #58
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not really double duty . in both cases the cash and bonds have a combined real return of zero to a negative return so equity's are needed in both cases to inflation adjust .

also a 6% annuity cash flow compared to a 4% initial cash flow on your own also already has quite a bit of inflation adjusting built in . the cash flow off the bat is already 50% higher

you can actually keep the same 4% draw and reinvest the extra 2% back in to equity's with the spia
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Old 01-14-2016, 06:33 AM   #59
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What I found interesting is that the stock/SPIA combination had much more volatility than stock/bond combination... I suspect because stocks and bonds are generally uncorrelated. It was surprising that the SPIA/stock combination had a higher success rate.
Some of that might be because FireCalc uses the equivalent of bond mutual funds for the bond portion - in that case you get the more immediate anti-correlation (during extreme events - over the long term, they're uncorrelated). If, however, you own actual bonds and hold them to maturity then I suspect the difference in success rates might be a bit less.
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Old 01-14-2016, 07:33 AM   #60
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over time you still need to liquidate those bonds to replenish cash . so if holding until maturity in effect you are the bond fund . .

a total bond fund is more like what you would have to hold , about 25% short term , 25% long term and the rest in the middle .
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