Professional Documents
Culture Documents
Annuities
P. Antolín
OECD, Private Pension Unit at
DAF/FIN 1
Structure of the talk
• What do we mean by annuities?
• Distinguishing between annuity payments
and annuity products.
• The type of annuity products.
• How annuity products can help bridge the
transition from accumulation to payout
phase.
• The risks involved (e.g. longevity risk).
2
What is an annuity?
• An annuity is an amount of money paid to
someone at some regular interval.
• Most people think in terms of annuity
products: an agreement or contract for one
person or organisation to pay another (the
annuitant) a stream or series of payments
(annuity payments).
3
Annuity payments and products
• A public pension is a stream of income
paid at regular intervals.
• The pension benefits paid by a defined-
benefit pension plan is a stream of income
paid at regular intervals.
• An annuity product is a contract, different
from an annuity payment.
4
Annuitization
• Financial economics: people better off if a
large share of their retirement income is
annuitized (protect against longevity risk)
• Until recently people where heavily
annuitized through public pensions and
DB pension plans.
• They both provide a constant stream of
income at retirement or annuity payment.
5
Relevance of annuity products
• Recent changes in public pensions: lower RR.
• Shift from DB to DC funded pension plans
• Need to buy annuity products to protect
against risks, especially longevity risk (the
likelihood of outliving one’s resources).
6
Relevance of annuity products
• Some countries in LA and CEE have
introduced DC personal plans as main source
of retirement income.
• At retirement, pension wealth is the form of a
lump-sum. Retirement income is not
annuitized.
• Annuity products could help in bridging the
accumulation and the pay-out phase.
7
Type of annuity products
• There are several dimensions to classified
annuity products.
• According to the type of guarantees they
provide.
8
According to how they financed
• Single premium
• Flexible premium (e.g. contributions)
– Fixed
– Variable
9
According to primary purpose
• Immediate pay-out
• Deferred (accumulation)
10
According to the underlying
investment
• According how annuity products create
future value
• Fixed: guarantee a return and a specific
payout at retirement.
• Variable: returns and payment depend on
how your portfolio performs
• Equity-index
11
According to the nature of the
payout commitment
• The duration of the payout
• Life: payout last for the life time of the
annuitant
• Fixed-tem or certain: e.g. 10 years
• Temporary: payout last for the earlier of
the two
• Guarantee: payout last for the later of the
two 12
According to the providers
• Qualified annuities: the provider during
both the accumulation and the pay-out
phases is the same (annuities as vehicles
attached to certain retirement plans,
401(k)s, IRAs)
• Non-qualified: providers are separate
entities
13
According to …
• People covered
– Single
– Joint-survivor
• Way annuity is purchased
– Individual
– Group
• Other feature
– Enhanced or impaired
– Inflation indexed
– Tax advantages 14
Several dimensions to classify annuities
How they are financed Primary purpose Underlying investment
• Single premium • Immediate pay-out • Fixed
• Flexible premium (contributions) • Deferred (accumulation) • Variable
• Fixed • Equity-indexed
• Variable
15
Annuity products and guarantees
• What distinguishes the different type of
annuity products is the type of guarantees
they provide
• These guarantees determine the size of the
risks involved in annuities:
– Longevity risk.
– Investment risk.
– Interest rate risk.
– Inflation risk.
16
Annuity products and risks
• Life, deferred and fixed annuity. This is the
annuity product that replicates a DB plan
1. Impact of LR on the total amount of
annuity payments (liabilities)
(LR: uncertainty regarding future mortality
and life expectancy outcomes)
2. The interaction btw the risks involved
(interest rate and LR): super-additivity.
17
The impact of unexpected gains in LEx
• Increase in the NPV of annuity
payments to an individual aged
70, 65, 55 and 35 in 2005.
• The payment is 10.000€ in 2005.
Wages grow at 1.75%, inflation
1.75% and the discount rate is
3.5%
• Base case: using current life
tables.
• Case 1: using projections of A fund (membership structure 2.5, 10,
improvements in life expectancy 25 and 62.5%)
at birth of only 1.2 years per
decade.
• Case 2: life expectancy at birth
increases a 2.2 years per decade.
Impact of longevity improvements and changes in interest rates on annuity payments
Percentage change in the net present value of annuity payments, 2005- 2090
Interest rates
pablo.antolin@oecd.org
http://www.oecd.org/daf/pensions