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Vanguard SPIA's....IRR=?
Old 05-02-2008, 07:57 PM   #1
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Vanguard SPIA's....IRR=?

When I calculate the IRR of a quote for a Vanguard Lifetime Income annuity based on retiring at about 53 and living to 86, the IRR is about 6%?

I would have thought it was only 4%.

It also shows a CPI-U adjusted withdrawal rate of a little over 5% based on a single life. That's better than the SWR of 4% always talked about. I realize the risks are different and the upside is gone, but that return is actually not that bad. I suppose that's been discussed many times. What has been concluded?

And that's at todays lower interest rates.

For someone conservative and not concerned with losing the upside, are SPIA's actually reasonably competitive with the 60/40....4% SWR, or am I missing something?
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Old 05-02-2008, 08:34 PM   #2
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I think you have to throw in the loss of principal at the end in your SPIA IRR calcs...that gums up the works a bit. I think you'll find that you're getting something closer to 2.5-3.5% depending on the age and health once you throw that part in.

I could have a 7%-8% "SWR" if I was calculating a zero portfolio at age 86.
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Old 05-02-2008, 08:38 PM   #3
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Yeah, I'd bet you're counting the whole distribution payment which, in fact, includes a component of principle in addition to returns.
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Old 05-02-2008, 08:38 PM   #4
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I think you have to throw in the loss of principal at the end in your SPIA IRR calcs...that gums up the works a bit. I think you'll find that you're getting something closer to 2.5-3.5% depending on the age and health once you throw that part in.

I could have a 7%-8% "SWR" if I was calculating a zero portfolio at age 86.
I did use a zero for principal at the end, it still came up with 6%. I am surprised at that.

As far as your SWR, I'm pretty sure they use zero at the end (maybe a little after 86) for the norml 4% SWR calculation also.

Maybe annuities are not that bad.
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Old 05-02-2008, 08:41 PM   #5
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Yeah, I'd bet you're counting the whole distribution payment which, in fact, includes a component of principle in addition to returns.
That is correct that I am including principle return. But looking at it in investment terms, it calculates to a 6% IRR unless I'm messing it up somehow.
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Old 05-02-2008, 08:43 PM   #6
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As you make another positive SPIA comment I must start questioning whether you are trolling. However, back to your question.....

Your comment about "beating" the SWR rate of 4% neglects to mention that when using the 4% SWR you end up with a substantial portfolio left at the end for either you increasing your spending somewhere along the line or leaving money for LTC or your heirs. With the SPIA, the money coming in is fixed in all cases and when you die the final balance is zero. The payout assumes capital is depleted. No residual is available to fund LTC in the couple years prior to death.

The IRR calculation is based on when you expecti to die. You picked 86 which is reasonably conservative for most people. I don't know what the mortaility table would say for a 53 year old but that seems reasonable if you are in excellent health and longevity genes run in your family. I haven't bothered to check your calculations but I suspect the return is high. Again, any annuity drives the payout to return capital over the life of the annuity. The SWR of 4% will possibly go below zero or quadruple.

All of your comments compare a "certainty" to a long term historical return with some cases lower and some cases significantly higher. Tou are comparing apples to oranges.
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Old 05-02-2008, 08:47 PM   #7
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As you make another positive SPIA comment I must start questioning whether you are trolling. However, back to your question.....

Your comment about "beating" the SWR rate of 4% neglects to mention that when using the 4% SWR you end up with a substantial portfolio left at the end for either you increasing your spending somewhere along the line or leaving money for LTC or your heirs. With the SPIA, the money coming in is fixed in all cases and when you die the final balance is zero. The payout assumes capital is depleted. No residual is available to fund LTC in the couple years prior to death.

The IRR calculation is based on when you expecti to die. You picked 86 which is reasonably conservative for most people. I don't know what the mortaility table would say for a 53 year old but that seems reasonable if you are in excellent health and longevity genes run in your family. I haven't bothered to check your calculations but I suspect the return is high. Again, any annuity drives the payout to return capital over the life of the annuity. The SWR of 4% will possibly go below zero or quadruple.

All of your comments compare a "certainty" to a long term historical return with some cases lower and some cases significantly higher. Tou are comparing apples to oranges.
Not trolling, quite serious. I was surprised the IRR on the annuity is that high.

I'm not really trying to start the 4% SWR arguement. But the annuity does seem better than I would have thought. With the 4% SWR things could blow up, the annuity has it's own risks.
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Old 05-02-2008, 08:48 PM   #8
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I'll never get this annuity thing. Last year I bought 2 cd's from Pen Fed. One at 6% and one at 6 1/4% and at the end of 7 years I get my 200K back. Why would I want to get the same or less return and have nothing when I die.
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Old 05-02-2008, 08:50 PM   #9
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I'll never get this annuity thing. Last year I bought 2 cd's from Pen Fed. One at 6% and one at 6 1/4% and at the end of 7 years I get my 200K back. Why would I want to get the same or less return and have nothing when I die.
I'm not saying it's best for you. It's really not as simple as you are getting nothing when you die, you are getting paid more than you could get safely (long term, your CD's only lock in a few years) while you are alive. If you wanted to you could funnel it into a kids Roth or something. Just a side thought, not a plan.
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Old 05-02-2008, 08:53 PM   #10
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I'm not saying it's best for you. It's really not as simple as you are getting nothing when you die, you are getting paid more than you could get safely anywhere else while you are alive. If you wanted to you could funnel it into a kids Roth or something. Just a side thought.
Well, if your getting 6% and I'm getting 6 to 6 1/4 how do you figure I'd be getting paid more with the annuity?

I must be slow because I just can't put my brain around these annuities.
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Old 05-02-2008, 08:55 PM   #11
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Well, if your getting 6% and I'm getting 6 to 6 1/4 how do you figure I'd be getting paid more with the annuity?

I must be slow because I just can't put my brain around these annuities.
You could lock in 6% for 33 years (as in my example), your CD might only get you 4% the next time it rolls. The point is you have interest rate risk, the annuity doesn't have that.
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Old 05-02-2008, 08:57 PM   #12
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You could lock in 6% for 33 years, as in my example, your CD might only get you 4% the next time it rolls. That is the point.
Maybe, but as we've discussed may time here that you can't time the market. I can remember a time when we were getting 16% on CD's and if that was the case I'd be locked into 6% for 33years. Remember one other thing, I'd still have my money to leave for my kids. You wouldn't have that option.

Not for me, no way, no how.
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Old 05-02-2008, 09:04 PM   #13
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Maybe, but as we've discussed may time here that you can't time the market. I can remember a time when we were getting 16% on CD's and if that was the case I'd be locked into 6% for 33years. Remember one other thing, I'd still have my money to leave for my kids. You wouldn't have that option.

Not for me, no way, no how.
Even if CD's were 16% which is probably not likely to happen again in our lives, I doubt you could get more than 10 years of lock.

I have kids and want to leave them a fortune also, but I'm still interested. There are ways to get the money to them, even if you buy one of these. I think locking in 6% for 33 years is interesting. A Treasury is safer but now you can only get about 4.5%. This all assumes the 6% IRR on the SPIA is correct, maybe I am off on that somehow.

I'm not an annuity salesperson and could care less about that issue.
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Old 05-02-2008, 09:06 PM   #14
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unless I'm messing it up somehow.
You are.
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Old 05-02-2008, 09:07 PM   #15
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That is correct that I am including principle return. But looking at it in investment terms, it calculates to a 6% IRR unless I'm messing it up somehow.
Try this formula in your own spreadsheet to double check (gives annual payment amount if paid at the beginning of each year:

=PMT(ReturnRate, numberOfPeriods, InitialInvestment, 0, 1)

Your presumed IRR in an annuity for a youngish person would amaze me. For example, $100,000 at 3.7% for 33 years gives payments of $5108 at the beginning of each year. That's an interest of 3.7%, not $5108.

Hope that helps.
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Old 05-02-2008, 09:09 PM   #16
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Well, that's what make the world go around. If you think it's a good deal then it's a good deal for you. I just don't see it, and I guess I never will.

After being sold some Whole life policies and have all 3 go to class action I don't have a love to ins. companies. The only good thing is I was awarded good payouts for all the lies I was told by the salespeople. Even going via Vanguard you still have to deal with and ins. co. which I choose not to do.
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Old 05-02-2008, 09:16 PM   #17
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You are.
Help me then. I didn't save it but I remember assuming that I started by buying a $1,000,000 annuity which had a yearly income of $52k CPI-U adjusted (I think I used 2.8%) for 33 years with nothing left. The IRR was 6% on handy HP calculator.

I should redo it so I have the exact numbers before someone jumps me on being precise, but I did get a 6% IRR.

Sorry....hold that thought, the $52k isn't right let me get my number correct, I'll be back.
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Old 05-02-2008, 09:20 PM   #18
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Help me then. I didn't save it but I remember assuming that I started by buying a $1,000,000 annuity which had a yearly income of $52k CPI-U adjusted (I think I used 2.8%) for 33 years with nothing left. The IRR was 6% on handy HP calculator.

I should redo it so I have the exact numbers before someone jumps me on being precise, but I did get a 6% IRR.
Using your numbers and the spreadsheet formula cited above, I get an IRR of 3.7%.

Sorry, but I don't think you've hit the mother lode.
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Old 05-02-2008, 09:27 PM   #19
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Using your numbers and the spreadsheet formula cited above, I get an IRR of 3.7%.

Sorry, but I don't think you've hit the mother lode.
I suppose not. But the income on Vanguard is $49,872 on $1 million, CPI-U adjusted single life. So you are saying a cash flow of $49,872 CPI-U adjusted on a million dollars for 33 years is not a IRR of 6%. That's what my calculator showed and I roughly checked it in a spreadsheet and got the same result. I'm not good with the formula's but I know how to get there, usually.

I'm still working at it........ My calculator just showed the IRR to be 5.94% using CPI-U adjusted cash flows with a zero remainder. I think it is correct. I'm using 2.8%/year for CPI-U adjustment to my income.

Not wanting to be a dope here, but in a spreadsheet if I assume I have $1,000,000 and make 6% each year than then start withdrawing $49872 a year (with a 2.8% yearly increase to that amount) yearly for 33 years. My account depletes to zero at the end. Isn't it correct to say that is a 6% IRR? (I am assuming I take the income at the end of the year, that makes some difference)

That isn't correct? I cannot see how I am off. In your 3.7% calc you were not including inflation adjustments, were you?
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Old 05-02-2008, 10:27 PM   #20
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Not trolling, quite serious. I was surprised the IRR on the annuity is that high.

I'm not really trying to start the 4% SWR arguement. But the annuity does seem better than I would have thought. With the 4% SWR things could blow up, the annuity has it's own risks.
I am not doubting your calculations... but it is comparing apples to oranges...

If you do a monte carlo on the exact same investment and even did a SWR of 6%... there will be a good number of portfolios that your final balance will be many times more than you started... so your IRR is much higher than 6%...

But, with the worst case to cover the 4% SWR is conservative...

SOOO, you can take your 6% and have nothing OR take the 4% and unless something bad happens you will have much more than you started with to leave to whomever you wish...

This is the big problem with talking to people about annuities and the other thread where they were using life insurance and cash value etc.... these REQUIRE you to have ZERO when you die... I much prefer to have something to leave...
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