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Why You May Want to Avoid This Guaranteed Retirement Income Product


Current investors aren’t just navigating a bear market; they’re also contending with rising interest rates that are driving down bond returns. For retirees and those approaching retirement, these challenges are even more daunting.

While experts and past research have pointed to the merits of transferring some or all of your savings to an insurance company in exchange for an annuity, recently published research found that purchasing a single premium immediate annuity may not be worth it compared to traditional portfolio management if market conditions are even slightly better than the worst-case scenario.

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“We conclude that annuitization appears to be superior relative to traditional static withdrawal distributions strategies in providing lifetime portfolio sustainability under black swan investment conditions but is likely to result in a significant tradeoff in total lifetime income and assets if the future is even modestly less apocalyptic and/or if the annuitant(s) do not live longer than 30 years in retirement,” Jack DeJong Jr. and John Robinson wrote in their paper “Is the Annuity Puzzle Really So Puzzling? An Analysis of the Consumer Lifetime Annuitization Decision in a Low Interest Rate World.”

Instead, DeJong and Robinson found that traditional asset management and an 80/20 split between equities and bonds at the outset of retirement are more likely to be better alternatives for retirees than annuities.

Single Premium Immediate Annuity Definition

A single premium immediate annuity is an insurance produce that can help retirees limit the risk of outliving their savings.

A single premium immediate annuity or SPIA is a retirement income product that turns a large sum of money into a series of guaranteed payments. Like other kinds of annuities, an SPIA is a contract between an investor and an insurance company.

An SPIA allows the consumer to choose the frequency and duration of their annuitization payouts. An immediate annuity typically guarantees payments for the rest of your life, but you may also have the option of transferring the payouts to your spouse or heirs if you die before a certain period of time has elapsed.

As a result, SPIAs and other annuities can provide an added layer of income protection for retirees. That protection may be especially attractive for risk-averse investors during a bear market and/or period of interest rate hikes.

Why SPIAs Fall Short

New research suggests that annuitization is preferred over traditional asset management in retirement, like that of a 401(k), only in the most dire of market scenarios.

DeJong, a chartered financial analyst and associate professor of finance at Seattle Pacific University, teamed up with Robinson, a Honolulu-based financial planner, to assess whether annuitization should be preferred to traditional asset management.

The pair ran thousands of simulations for hypothetical 65-year-old retirees (either single or married) with a $1 million nest egg held in tax-free or tax-deferred retirement accounts. DeJong and Robinson used a 30-year timeline, and based their simulations on stock market returns between 1970 and 2020. They also incorporated an estimated expense ratio of 1% for portfolio management. Meanwhile, DeJong and Robinson simulated payouts from SPIAs based on top quotes provided by actual insurance companies.

It was only under the most dire market conditions that an SPIA was worth the upfront forfeiture of capital, as well as paying the administrative expenses and sales commissions associated with these products, the researchers found.

“By demonstrating that portfolio depletion prior to death is likely to occur only in extremely harsh, long-lasting investment environments (and then only in later years) and by quantifying the significant wealth sacrifice consumers make with irrevocable annuitization even if future investment returns are well below the historical norm, we conclude that the consumer decision to retain control over the spending portfolio instead of purchasing a SPIA seems decidedly rational,” DeJong and Robinson wrote.

The pair’s research suggests that retirees would be better served with conventional asset management compared to annuitization. However, the traditional 60/40 portfolio composition (60% equities and 40% bonds) should no longer serve as the starting asset allocation at the start of retirement. Instead, retirees will need nearly 80% of their assets invested in equities, given the realities facing the bond environment.

Bottom Line

As DeJong and Robinson note, there is a growing chorus of experts who call for the use of SPIAs, especially amid the current challenges and uncertainties plaguing the markets. However, unless the worst case market scenarios come to fruition, DeJong and Robinson’s research suggests retirees are better off retaining control over their assets as opposed to transferring their savings to an insurance company in exchange for an annuity.

Retirement Planning Tips

  • When it comes to something as important as your retirement, it pays to have a professional in your corner. A financial advisor can help you create a holistic plan for retirement and put your mind at ease. Finding a qualified financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
  • The amount of money you’ll need to save for retirement is completely unique to your own personal situation. However, the experts at J.P. Morgan Asset Management calculated income replacement targets that can help guide your savings habits.
  • Social Security plays a major role in the retirement plans of most people. Knowing how much your future benefits could be based on when you claim them is an important piece of the puzzle. SmartAsset’s Social Security Calculator can help you estimate how much you monthly benefits will be worth.

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