Annuites could hold level as gilt yields rebound

Although Partnership have reduced their rates and other market leaders such as Just Retirement and Liverpool Victoria have significantly reduced margins but have not reduced their impaired rates across the board, pension annuity rates may hold and not reduce further.

This is due to reducing enhanced annuities last week from providers by 1.5% with some rates from Liverpool Victoria by up to 3.5%. The 15-year gilt yields were at 2.34% at this time reducing 17 basis points and have now recovered to 2.27%. Impaired annuity rates are based on the 15-year gilt yields and as a general rule a 17 basis point fall would result in a 1.7% reduction in rates.

Most of the fall in yields last week has now been made up as investor confidence improves since the US economy announced lower than expected job gains for the month. People buying annuities may not see their annuity rates reduce further, especially if yields stay where they are or improve slightly.

Economic activities driving enhanced annuity rates

Enhanced annuity rates are primarily driven by the rising and falling 15-year gilt yields which depend on the activities of institutional investors. In times of confidence funds will move away from the security of US Treasury notes, UK government bonds and gilts and German Bunds towards higher yielding investments. In time of uncertainty the flow of funds reverses and can have a dramic effect on retirement annuities by forcing the rates lower.

During the early part of the year confidence increased after the US fiscal cliff deal was agreed driving up yields to a high in February of 2.76%. Impaired annuity providers were the first to follow with higher rates with agressive competition returning to the annuity market to the benefit of people retiring and buying their annuities.

It was not until comments made by the Federal Reserve about the risk of Quantitative Easing to the US economy and inference they may stop this supply of money increasing the equity markets that investors started to react. With the Italian election deadlock and Cyprus bailout crisis investors lost their original confidence and fear returned with funds seeking safe havens, driving up the price of gilts and the yields down.

People retiring that remain invested right up to the point of buying their annuity will have benefited from a high equity market that has increased the value of their pension funds.

For example a male aged 65 retiring in October 2011 with a fund of £100,000 could buy a single life, level basis standard annuity for £6,093 pa. Annuity rates have reduced by £524 pa or 8.6% over this time although equities are up by 27.6% and the pension fund could have improved to £127,600 which would provide an retirement annuity income of £7,106 pa based on current rates. This means that the income from their fund has increased by £1,013 pa or 16.6% over this period.