30 May 2012 last updated

UK annuity rates fall as Eurozone fear spreads to markets and gilts

Eurozone fears have meant annuity rates in the UK have reduced with pensioner income over 10% lower with falling markets and annuities. Providers have been reducing their UK annuity rates after a difficult month where both equity markets and gilt yields have reduced on the back of investor fear over the future of the Eurozone. Annuity provider Aviva and Legal & General have reduced their rates by up to 1.5% affecting the standard annuity rates and impaired annuity provider Just Retirement have also reduced their rates by 1.5%. For our benchmark example of a male age 65 with a £100,000 fund this means that an annuity purchased on a single life and level basis the income has reduced from £6,112 pa to £6,021 pa, a fall of £91 pa or 1.48%. If you take into account both the decrease in equity markets and annuities the reduction is even greater.

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Pensioner annuity income now 10% lower

Many pensioners remain invested in equities right up to the time they purchase a annuity and this can be risky if equity markets fall. Therefore a pensioner with a £100,000 fund a month ago could have purchased a pension annuity with an income of £6,112 pa.

The FTSE-100 index has reduced 515 points in May or 8.8% so the fund to purchase annuities has reduced to £91,200 and the annuity that can be purchased with this fund is £5,491 pa. This represents a reduction in income at retirement of £621 pa or 10.1% in only a month, however, the pensioner would receive this lower income for their lifetime. The life expectancy of a 65 year male is 17.6 according to the Office of National Statistics (ONS) so the loss of income over his lifetime will be £10,929.

One way to recover from a lower annuity rate is to receive up to 30% higher initial incomes than the standard open market option by using a with profits annuity or investment backed annuity. There is a higher risk due to the investment but income is smoothed over time compared to volatile equities. This may be suitable for pensioners that can spread the risk by having more than one personal pension fund or final salary pension.

Pensioners with lifestyle medical condition such as high blood pressure, Cholesterol, are a smoker or are overweight can purchase an enhanced annuity for extra income. An impaired annuity could pay 40% higher incomes than the highest conventional annuity if the pensioner suffers from conditions such as diabetes, heart conditions or cancer.

Investors seek safe havens

The main reason for the reduction has been the ongoing financial crisis in Spain where markets have fallen on increasing fears that Spain would require a bailout due to the mounting debts. Despite the European commission's willingness to give Spain more time to reduce the deficit markets continue to decline. The FTSE-100 index reduced by 94 points to 5,297 and the Dow Jones by 161 points to 12,419 with European markets down by up to 2.2%. The cost of borrowing for Spain increased with the 10-year bond yields rising to 6.6% which is nearing levels where Greece and Portugal required a bailout.

In contrast investor funds have been moving to safer havens and in particular US Treasury bonds which are now at levels not seen since 1946 with yields of 1.46%. Yields of German 2-year bunds reduced to zero indicating that investors would rather have no return than take any risk in the market. In the UK government bonds and gilts were also popular with the 15-year gilt yields reducing 13 basis points to 2.21%, another reason why UK annuity rates are reducing as gilt
yields are used to secure the annuity income paid to pensioners.