Annuities and Risk Pooling
UPDATED for 2022
Hosted by Wade Pfau, PhD, CFA, RICP - Founder of Retirement Researcher.
Annuities serve as another retirement income tool that allows for greater spending than bonds alone. Annuities with lifetime income protections can provide an effective way to build an income floor in perpetuity for retirement. Annuities, as opposed to individual bonds, provide longevity protection by hedging the risks associated with an unknown retirement length. Annuities used as tools to fund retirement spending will be especially attractive to those with the income protection and risk wrap retirement income styles. The simplest type of annuity is an income annuity. We will start by exploring how these work, and then continue to explore other types of more complicated annuities, including deferred variable annuities, fixed index annuities, and registered index-linked annuities. Different annuities provide various combinations of guaranteed income, liquidity, and upside growth potential. After describing how different types of annuities work, we continue with a deeper discussion of fitting annuities into a retirement income plan. Annuities with lifetime income protections provide a source for reliable income to fill any gaps in relation to the assets earmarked for longevity expenses. As for which annuity type is most suitable, the decision involves striking the desired balance between downside protection and upside potential with the annuity. I also discuss how to manage inflation risk with annuities, and how a partial annuity strategy impacts legacy and liquidity. Those purchasing annuities must also decide between selling stocks or bonds to fund the purchase, and I make the case for annuities as a bond alternative.
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