I’m going to resist the temptation to write about Northern Rock, given the blanket coverage elsewhere. Suffice it say that Alistair Darling has a Northern Rock mortgage on a London property, (http://www.telegraph.co.uk/money) so presumably he’ll have the interests of the bank’s customers at heart, if not those of shareholders.
Instead, I am wondering how we are going to cope with increasing longevity, given the implications this will have on annuity rates and our ability to fund our pensions.
The Pensions Regulator, who oversees UK final salary schemes, issued a timely wake-up call this week about the need for actuaries to factor in lengthening life spans into scheme funding arrangements. Apparently, scheme actuaries have been underestimating how long scheme members are likely to live and need to increase longevity assumptions by 18 months.
This means assuming a 65 year old man today will live to age 89, and a 65 year old woman to age 92 - roughly two years longer than the current presumptions in more than half of UK company schemes.This might seem like great news for pensioners until you realize that every additional year of life expectancy increases scheme liabilities by 3-4 per cent.
Even though members of final salary schemes tend to live longer than those who don’t benefit from this luxury, longevity is rising across the board and will have a knock-on effect on annuity rates for the majority of people who will have to buy an annuity when they retire.
And if you believe American pensions expert, Aubrey de Grys, who claims that there are people alive today who will live to 1,000, a lot of people are going to outlive their assets.
This is not as fantastical as it might at first appear. A quick search on the Defaqto annuity calculator http://www.find.co.uk/pensions/annuities_centre/annuities-calculator) shows that the best deal for a 65 year old man buying an annuity today (increasing by 3 per cent a year), with a £100,000 fund, is just £5,417 pa – and that’s excluding any partner’s pension or guarantees.
So the outlook for those of us who will be at the mercy of annuity rates when we retire is grim. We will either have to accumulate enormous savings to sustain us through our increasingly long retirements, or step up the intake of the deep-fried Mars bars and hope for an early demise.
The problem is not with increasing longevity but with our pensions tax rules. Despite ’simplification’ we are still working with a tax code stemming from 1970. One of its guiding principles was that a pension should be paid for life. Hence if people live longer, pensions become more expensive.
But what if a pension could cease at age 100, or 105? Two things could happen: first we could approach scheme members to buy them out after a certain age. Who’d not take a cash sum now to agree to their pension ceasing at, say 100?
Secondly, because we would have certainty, pension funds could be valued properly. Liabilitiies could be fixed, and might even reduce.
It won’t happen though!report this comment
Many of my friends that have recently retired have taken what seems to me to be a very pragmatic approach. On finding that their annuity does not afford them the level of comfort in retirement that they had hoped for, they have taken up part time employment.
But not just any old employment. Bouyed up by the cushion of whatever pension they are drawing, they are picking and choosing in the employment market, and dabbling with new jobs that they really enjoy.
This concept of “part-time” retirement seems like one potential answer to the financial challenges of living longer.report this comment
Obviously, I am writing this in my private capacity, rather than as a member of the pensions regulator board, but I must say how much I agree with the way that my colleagues there have brought this out. A couple of loose thoughts:
1. Of course, it is being looked at now mainly in the context of the problems of funding DB schemes. But the problem is there every bit as much, if not more so because of the lower amounts accumulated, for DC schemes. It is just that the risk is with the individual, as Pam identifies. This is in reality a much bigger problem than that for DB schemes, because at least with DB schemes there is somebody who - albeit painfully - can do something about the consequences.
One wonders what the FSA would say if pensions providers were to go to all their pension policyholders and say ‘looking at longevity assumptions your contributions - which haven’t moved up since 19?? - should go up by x% to cover the increased period you can excpect to live. Because this is a broad fact, we don’t have to carry out a personalised fact find - so unless you write back to us within 6 months we will ‘automatically enrol’ (to coin a phrase) you into an n% higher pension contribution.’
Distribution and regulatory costs would be minimal. Charges could be really low but still actually make sense for the provider.
Why not?
2. I think the value of a lifetime guarantee is amazingly under-appreciated by people. Leaving aside the technical arguments, which blight the discussion of the topic far too often, my own personal experience of what undercooking this can mean makes me believe it is important that ordinary people should have a more realistic view. It is not rocket science.
The experience to which I allude is that of my father. He was a typical between the wars baby, who smoked too much, ate the wrong stuff (although he never drunk) and was pretty much old by the age of 40. I remember that on his 40th birthday we were playing beach cricket. On hitting the ball he said ‘ I am 40 now, I am not going to do runs any more. I will hit ther ball and tell you how many I would have run’.
He spent most of his life self employed. He was only a sporadic member of the income tax and national insurance club. His version of justice was that because he had never really put anything in, when he reached retirement age (or for any other reason) he would not take anything out. ‘His business was his pension’ and he kept going on a part time basis - much as Adrian suggests - and built up a sum of money that he had calculated would see him and my mum off, once he couldn’t work at all any more.
Problem was, he got it wrong. His assumption (he was quite methodical about it) was that there was no way that he was going to be around after 75. He had, after all, had a heart bypass at 60 and they reckoned that would give him 10 years. At 75, his money duly ran out. I told him that he should claim the benefits he could get. That 10 years of letting the taxpayer off what he could have claimed was enough repair for the years of (probably quite low level) missing NI contributions. Categorically refused.
For the next five years, I - against all his instincts - helped out him and my mum, until at the age of 80, he finally decided that he hated being subsidised by one of his children even more than he hated going to the state for benefits. So, for the last two years of his life, he did - and my Mum still is, I am pleased to say.
But my rather long winded moral is that the last 7 or 8 years of his life were really rendered miserable by an underestimate of probable longevity. All, he would ever take from me or my brother and sisters was just enough to stay alive. Obviously, that is all the state benefits did either. And the misery was compounded by the feeling of failure that came with dependancy, for someone who had been proudly - no, stubbornly to the point of irrationality - independent for the whole of his life.
So this is not just a question of whether the ’short cohort’ or the ‘long cohort with an underpin’ or a P spline (whatever that is. One day I will know) constitutes the right basis for ‘technical provisions’ . It is all about whether old people can go out, with their heads held high, to the shops when they need to.
Lauriereport this comment
I agree with the blog and comments added so far,and have two observations of my own.
First,from my knowledge of the Actuarial Profession’s work in this area, people working today should assume they will live to 90 unless they have reason to believe they are less healthy than their friends. Remember that longevity stats include people of worse-than-average states of health,so many people will live LONGER than the averages suggest.
Second,I have seen little evidence to suggest that people with money purchase pensions pay any attention to their Statutory Money Purchase Illustration(SMPI),which by law they must be sent annually.This ought to be a screaming call to action.You can lead a horse to water,but you can’t make it drink.Voluntarism clearly isn’t working well enough.Auto-enrolment might,but if it doesn’t we will have wasted another decade.Perhaps Otto Thoresen’s Generic Financial Advice report next week will help.
Stewart Ritchiereport this comment
Clearly this is an important issue for those in retirement - faced with the prospects of people living longer and longer, insurance company have to reduce their risk and cut annuity rates.
However if investors are perpared to share some of the risk with insurance companies they may get a better income in the long run.For example investors who buy With-Profits annuities are sharing the risk.report this comment
This is all about income streams, something Laurie almost said I guess; for most of our lives we need an income stream. That’s the way it is. The state doesn’t do streams for older people - the state support we can really count on is more likely a trickle. The demographics see to that. Younger people can get an income stream well enough by selling their time. Most people I know do just that; they’re called employees. But it’s a drag selling ALL your time; you need to keep some for yourself. Income streams generated from lifetime savings can help when you’re older. It’s handy to be able to rely on something other than selling your time. The best savings for producing later-life income streams are called ‘pensions’. Pension savings, for some reason that no-one seems to remember these days, are given an edge by the tax system. That edge is worth having even if pensions are caught up in the complexity thing. But these new insights into the seismic mortality shifts we’re all so lucky to be caught up in frighten us because it all essentially means we’ll have to put so much more aside if we want our income streams to keep flowing while we’re on the planet. We need to accept that, save more and move on…..report this comment
One of the effects of the increasing number of pensioners and rising life expectancy has been huge demand for long-dated assets from pension funds and annuity providers, pushing up prices and depressing yields. Regulation and the obsession with liability driven investment (LDI) is forcing lower yields at the long end of the scale while returns on shorter dated stock have been more generous. Can locking into a single product such as a lifetime annuity at the point of retirement continue to offer good value over the protracted retirement years? With average retirement now lasting longer than twenty years more retirees are likely to retire in stages, taking benefits to suit each stage of retirement rather than locking in to fixed benefits at outset. This gives more flexibility for people to react to changes in their own circumstances, such as ill health, while still allowing them to deal with longevity risk by buying a lifetime annuity at a later date.report this comment
My favourite pharma supermarket
world-pharma.pillsfm.com
WBR,
Alexreport this comment