Thoughts on Annuities

[SofiaBourbon]

I have been looking to invest on annuities and was wondering if any mustachian was/has look into this as an option.

Thank you!

[Left]

I'm looking at them but not planning on buying into one at the moment, I'm 27 and I don't think I need to so early :S. If I need to, someone let me know :D

[footenote]

Sofia - I worked for an annuity company for three years. How old are you? What amount of  principal are you considering annuitizing? What portion of your total net worth are you considering annuitizing? What's your goal for this investment?

[Joet]

I think depending on how things work out I'll look at purchasing one when I ER, just to have some kind of a lifetime/floor of income. Depending on interest rates/fees/etc of course.

With SS as one leg, a SPIA as another, and perhaps a rental or two, with a retirement portfolio there are worse positions to be in.

Maybe 1/5 to 1/4 of retirement portfolio as an SPIA I am thinking. Haven't fully thought this out of course.

http://www.forbes.com/sites/rickferri/2012/09/04/immediate-annuities-arent-for-everyone/

Basically it's insurance against the 2.5% to 4.0% SWR scenario hitting a black swan event.

[DoubleDown]

Personally I haven't been able to see the case for purchasing an annuity. It seems like in just about any case you should be able to do better things with your money that earn a higher return while providing enough security at the same time. I think any annuity I've seen gives ~2% annual return, and that's assuming the company sticks around to meets its obligation. You should be able to just purchase government bonds or CD ladders that give that kind of weak return with pretty much zero risk.

I'd keep my investments in a decent AA, and leave it at that.

[SofiaBourbon]

The reason I asked is because I wonder if people here were using it to supplement their retirement. I read the following article and found annuities doesn't fit  what I was looking for. I'll stick with mutual funds for now
http://t.kiplinger.com/kiplinger/#!/entry/7-annuity-mistakes-to-avoid,51d350b9da27f5d9d0f0e129/1

[footenote]

They are, more often than not, a poor choice. (And having said that, like JoeT, I may yet do some minor annuitization as Black Swan insurance.)

[grantmeaname]

Basically it's insurance against the 2.5% to 4.0% SWR scenario hitting a black swan event.

The kind of black swan event that affects every publicly traded company in the world and every municipality and government agency in the US, but leaves your insurance company unscathed?

I'm having trouble wrapping my mind around how an annuity could possibly help with that.

[Free_at_50]

If you are into charitable donations and are in a higher income tax bracket you may want to look into a charitable annuity like the Red Cross offers.  You get an upfront tax deduction, the annuity benefit down the road, and the satisfaction of knowing your favorite charity is benefiting instead of just some insurance company.

[footenote]

Basically it's insurance against the 2.5% to 4.0% SWR scenario hitting a black swan event.

The kind of black swan event that affects every publicly traded company in the world and every municipality and government agency in the US, but leaves your insurance company unscathed?

I'm having trouble wrapping my mind around how an annuity could possibly help with that.

Precisely because they are insurance companies, they have very different investment practices and very different (and heavy) government oversight. Work for an insurer (or just talk to an actuary who works for one) and you'll see it's quite different from a mutual fund operation.

[fiveoclockshadow]

Basically it's insurance against the 2.5% to 4.0% SWR scenario hitting a black swan event.

The kind of black swan event that affects every publicly traded company in the world and every municipality and government agency in the US, but leaves your insurance company unscathed?

I'm having trouble wrapping my mind around how an annuity could possibly help with that.

Precisely because they are insurance companies, they have very different investment practices and very different (and heavy) government oversight. Work for an insurer (or just talk to an actuary who works for one) and you'll see it's quite different from a mutual fund operation.

Hahahahahahahahahaha!

Three letters - AIG

P.S. It is certainly fair to say an annuity is very low risk compared to many other options, and it is also very low return.  As to the value (how far is it from the so called efficient frontier) from what I've seen it seems to not necessarily be of great value (i.e. you pay too much for too little risk reduction).

[grantmeaname]

Oversight doesn't matter - they're investing in the same investable universe you are, plus a handful of other minor classes that are highly correlated to all the things you already invest in. If a catastrophe hits that's sufficient to wipe out a well-diversified portfolio of publicly traded companies, government debt obligations, and real estate, the fact that the insurer also owns a few buckets of mortgages and writes life insurance on the side isn't going to sustain it and allow it to continue to pay your annuity. It offers no meaningful protection against black swan events.

[fiveoclockshadow]

Oversight doesn't matter - they're investing in the same investable universe you are, plus a handful of other minor classes that are highly correlated to all the things you already invest in.

A very important and often overlooked detail is that on the negative side asset classes become more correlated than "normal".  So even if the annuity is spread across many more asset classes than your own portfolio the reality is in the "black swan" event one is trying to protect against is going to result in greater correlation and less advantage in diversification anyway.

I think the Forbes article outlined it well.  There is a small middle range of investors that *might* benefit if they pick exactly the right annuity.  The reality is they are also betting that inflation will remain tame.  For everyone else the high costs and lack of liquidity could prove to make it a poor choice.

[footenote]

Oversight doesn't matter - they're investing in the same investable universe you are, plus a handful of other minor classes that are highly correlated to all the things you already invest in.

A very important and often overlooked detail is that on the negative side asset classes become more correlated than "normal".  So even if the annuity is spread across many more asset classes than your own portfolio the reality is in the "black swan" event one is trying to protect against is going to result in greater correlation and less advantage in diversification anyway.

I think the Forbes article outlined it well.  There is a small middle range of investors that *might* benefit if they pick exactly the right annuity.  The reality is they are also betting that inflation will remain tame.  For everyone else the high costs and lack of liquidity could prove to make it a poor choice.

I disagree that oversight never matters. But I agree that there is a small minority of investors who can benefit from very carefully selecting an annuity. Which is, in itself, so unusual that we might call it a "Black Swan" event. 

[grantmeaname]

I didn't say it never matters. It could prevent other problems, such as poor firm governance and incentives. What it can't prevent is the correlation between the insurer's assets and my assets. It's an answer to a different question. It's not worthless, just irrelevant.