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17 July 2013 last updated
Retirement annuities threat as gilt yields fall on UK and US stimulus plans

Annuities have been increasing recently due to soaring yields which have now reduced twelve basis points as the US Fed calms markets about the end of stimulus also known as Quantitative Easing and now threatens annuity rates.

Annuity rates are based mainly on the 15-year gilt yields and a 12 basis point fall from 2.99% to the current level of 2.87% would mean rates reducing by 1.2% at some point.

Impaired annuity rates are more sensitive to changes in yields and will react to falls within a week and sometimes within a day when yields are volatile.

The recent rise in yields was due to the US Federal Reserve announcing it would reduce it's $85 billion stimulus package later this year and end it by the middle of next year.

This action deflated the bond market bubble with prices falling and yields increasing to a high of 3.08% last month as investors panicked only to fall back recently when the Fed reassured equity markets it may be some time before they actually take action to reduce the stimulus.

Retirement annuities threat as yields fall
  Annuities are back under threat after the 15-year gilt yields fall 12 basis points so far this month
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Impaired annuities likely to react first

The specialist leading impaired health providers Just Retirement, Partnership Assurance and Liverpool Victoria react faster to changes in gilt yields with any changes having an impact on their margin on a daily basis.

Impaired annuities offer people with medical conditions an enhancement over standard rates as their life expectancy will be lower based on underwriting data. For lifestyle conditions such as high blood pressure and Cholesterol, people that smoke or are overweight the enhancement could be as much as 18% more than the highest open market option annuity.

For people with more serious medical conditions such as diabetes, heart conditions or cancers an impaired annuity could offer up to 40% more than the highest standard rates. Many existing providers would not be able to match rates in the open market so the income from an impaired annuity could actually be 75% higher than the income offered by the existing provider.

Standard annuity providers have been slow to increase their rates this year although this has now changed with significant increases in the past quarter. Since January 2013 standard annuities are now up 10.85% and for our benchmark example for a person aged 65 with a fund of £100,000 this means income has gone from £5,373 pa to £5,956 pa, up £583 pa.

In the short term standard rates are over extended and could reduce by 1.75% if gilt yields remain at current levels, however, in the medium term of three months the rates are about right. The providers are unlikely to increase rates and now much more likely to maintain current levels unless yields fall again.

Quantitative Easing end in sight from Bank of England

The recent rise in annuity rates has been due to the rise in gilt yields after the US Federal Reserve announced the end of their $85 billion per month stimulus package known as Quantitative Easing (QE).

The latest minutes from the Bank of England shows that the Monetary Policy Committee (MPC) voted 9-0 to leave at the current level of £375 billion in support of Mark Carney's plan as the economic recovery becomes more established. The Bank of England has also provided forward guidance to markets fearing borrowing costs would increase by stating that interest rates were unlikely to rise.

Although both Ben Bernanke of the Federal Reserve and Mark Carney's stance is for QE to end in the future, however, in the short to medium term stimulus will continue. This is why bond and gilt prices reduced slightly and why yields are likely to maintain their current levels if investors understand the support for stimulus will continued until economies show real signs of sustained recovery.

For people retiring the recovery in annuity income this year and for those that remain invested before the recovery in equity markets offer a good opportunity taking their benefits now. A full recovery for annuity rates may still be 4-5 years away and there is a cost of delay by waiting this long in terms of the income that would have been received during that time. Delaying buying an annuity takes about 10-12 years to recover the lost income.

News related stories:
Best annuity rates up 2% from leading providers with more competition
Pension annuity boost as equities and yields up with US jobs data
Enhanced annuities up 7.8% and now at risk of falls in medium term
Best annuity rates could rise 8% as gilt yields soar 39 basis points
Annuity income and equities reduce as Fed plans to stop stimulus
UK annuity income 7.7% lower as US Federal Reserve considers stimulus
Related internet links:
BBC - Federal Reserve aims to reassure markets
Guardian - Bank of England vote to leave QE unchanged
Telegraph - End of QE looms on signals from UK and US
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