Retirement Income: REPLACING SOME BONDS WITH ANNUITIES

"If you want to maximize how much you can safely spend in retirement, some economists say, sell some of your bonds and buy lifetime income annuities," according to Neal Templin, writing for the Feb. 8, 2021 Wall Street Journal. 

"While you’re still working, a diversified portfolio of stocks and bonds is an efficient way to save for retirement. But once you’ve retired and are drawing down that nest egg, income annuities can outperform bonds, some economists’ research shows."

"The most efficient portfolio for retirees consists of stocks and income annuities, says Wade Pfau, a professor of retirement income at the American College of Financial Services. The annuities provide dependable income, while the stocks provide growth, cover unexpected expenses and help leave a legacy for heirs."

But what about the 4% rule or guideline? That's the strategy of spending 4% of your nest egg each year, adjusting for inflation. Lots of problems with this strategy, especially for non-nerds. It takes a lot of attention to detail, decisions on which investments to sell, an iron will to stick to the strategy when the market goes crazy (almost every month in this century), and potentially wide swings in yearly income. Do you still want (and be mentally able) play with spreadsheets and make wise decisions when you're 85? Remember the research that found our ability to handle money declines with age. The 4% guideline comes from research in 1994 based on the era when bonds actually paid a decent return. 

We know that retirees are happiest when they have a reliable source of income. Remember pensions? Annuities are a way to create your own pension.

Specific example from Dr. Pfau:

"Consider a 65-year-old retired woman who has a $1 million nest egg, is risk-averse and wants to finance her retirement entirely through bonds. She is a nonsmoker, in average health. According to actuarial tables, there is a 22% chance she’ll live 30 more years. She decides to build a bond ladder that will run out of money when she’s 95 years old. At current interest rates, such a portfolio could provide her with around $42,000 a year for 30 years, Dr. Pfau calculates. If she instead used her $1 million for an income annuity, she could currently get around $54,000 a year from a range of insurers. One insurer, American Equity, has been offering a payout of more than $61,500."

"Social Security is itself an inflation-adjusted income annuity, and it’s usually smart to max it out by not claiming until age 70 before you buy a private annuity. That’s because Social Security is more generous in how it calculates payouts than other annuities. Your Social Security pension rises 8% for each year you delay claiming beyond your full retirement age."

You don't want to devote all your nest egg to buying an income annuity but buy enough basic income to supplement your Social Security so that you can invest your remaining assets in growth investments. 

Check out the other blog posts about income annuities. Also Dr. Wade Pfau's website: https://retirementresearcher.com/