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23 January 2015 last updated

Pension annuity rates to reduce as ECB starts €1.1 trillion stimulus

Pension annuity rates have been under pressure as the 15-year gilt yields plummet in anticipation of the ECB's stimulus plans and now with the official launch with €60 billion per month is likely to
see rates fall further.

The European Central Bank (ECB) has now officially launched their much anticipated €1.1 trillion quantitative easing programme which will buy €60 billion of bonds per month into the Eurozone.

Over the past six months as the Eurozone had drifted closer to deflation, investors have expected that finally the ECB would have to follow the example of the Bank of England with £375 billion and the Federal Reserve with £2.9 trillion of quantitative easing.

The 15-year gilt yields have plummeted from 3.05% in July to only 1.80%, a fall of 125 basis points. This would suggest pension annuity rates reducing by about 12.5% and to date they are lower by 7.9%. It is likely providers will factor in further reductions of 4.9% in the next month if yields do not recover.

Pension annuity rates to fall with ECB stimulus
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How far could annuity rates fall?

Annuity rates changes are closely correlated to the 15-year gilt yields which have reduced significantly since reaching 3.47% in December 2013. This was an improvement from the previous low of 2.02% attained in August 2012 during the Federal Reserve stimulus programme.

When the Fed programme officially ended in December 2013 gilt yields have been drifting lower until a new all time low of 1.80% following the ECB stimulus programme was announced this month.

  Benchmark annuity rates and gilt yields
  Jul Aug Sep Oct Nov Dec Jan
Rate £6,135 £5,987 £5,948 £5,906 £5,900 £5,755 £5,650
Yield 3.05% 2.70% 2.78% 2.64% 2.35% 2.15% 1.80%

The above table shows 15-year gilt yields are lower by 125 basis points since July 2013 and annuity rates using our benchmark example down by 7.9%. This suggests another 4.9% reduction is possible.

If gilt yields remain at this level it is likely our benchmark example will reduce by another £282 pa to £5,368 pa just beating the previous all time low.

This can be compared to the income received six months ago. Our benchmark example for a person aged 65 with a fund of £100,000 could have purchased an income on a single life, level annuity of £6,135 pa. If rates continue to fall this would reduce by £767 pa.

In terms of lifetime income, the Office of National Statistics (ONS) would expect a male to live for 17.3 years and he will have £13,269 less over his lifetime. For a female she can expected to live for 20.4 years decreasing her lifetime income by £15,646.

How long will the ECB stimulus last?

The European Central Bank (ECB) president Mario Draghi intends the stimulus to continue until September 2016.

The €60 billion per month will purchase public bonds including governments and EU institutions such as the European Commission and private securities. This is intended to reducing the interest rate on bonds and free-up the credit markets so financial institutions lend to business and people. This should allow them to spend more creating jobs and more economic activity to boost the economy.

The objective is to continue the programme until there is a sustained adjustment in the path of inflation. Currently inflation is below the target level of 2.0% due to poor growth in the Eurozone and the unexpected fall in oil price. This could mean annuity rates will remain low at least until the end of 2016.

The downturn in rates may deter people retiring now from buying an annuity. This also applies to those who have delayed buying until the new pension rules from April 2015.
Providers may have some new hybrid annuity products or people can also consider alternatives such as a fixed term annuity or pension drawdown using a protected growth fund until the ECB quantitative easing programme ends sending annuities higher.

News related stories:
Annuity rates fall 4.2% as 15-year gilt yields reach an all time low
Annuity income now 10% lower after falls in FTSE index and gilt yields
Annuity rates fall 2.3% as yields lower on Eurozone deflation crisis
Annuities to fall when ECB's €1 trillion stimulus plan starts
Related internet links:
Telegraph - Graghi announces €1.1 trillion quantitative easing
Guardian - Eurozone boost of €1.1 trillion plan by ECB
BBC - ECB unveils massive QE boost for Eurozone
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