Thousands of pension investors are facing a poorer retirement as the global stock market slump and continuing falls in annuity rates have cut the income they hoped to receive by nearly one-fifth.
Pension funds have been hit by dramatic falls in the UK share prices over the past fortnight – the FTSE 100 index closed at 5320, down 8.5 per cent in the two weeks to Friday August 12, as markets reacted to fears about government debt and a slowdown in global economic growth.
At the same time, at least ten annuity providers reduced their rates by 2 per cent, on average, as they factored in falls in gilt yields – the assets that back annuity payments.
Together, these two factors mean that savers with a defined contribution or personal pension have seen their projected retirement income fall by 18.8 per cent in just a month.
One month ago, a pension fund worth £100,000 could have bought a 65-year-old man a guaranteed income for life of £6,440 a year.
Since then, if the fund tracked the FTSE 100 index, its value has fallen to £83,000 and the annuity rate has slipped from 6.44 per cent to 6.3 per cent, giving an annual income of £5,230.
Advisers pointed out that these events will have little impact on investors some years away from retiring, as they have time to see their funds recover in value.
But those investors who did not de-risk their pension pots as they approached retirement, by shifting out of equities, now face difficult decisions if they had intended to buy an annuity.
“This won’t be a straightforward decision as second guessing the direction of the annuity market is a very difficult game,” said Laith Khalaf, pension investment manager with Hargreaves Lansdown, the independent financial advisers.
“While it might seem that rates can’t go lower, this is not a one-way bet and you could lose out. Secondly, if you do delay [buying an annuity] then, for each month that goes by, you miss out on a month of income you could have otherwise had. If, when you finally buy, annuity rates have risen, it will take some time to make good this lost income. If they have fallen, you may never make it back.”
Other advisers suggested that those who need access to immediate income to meet expenditure needs in retirement consider income drawdown from their funds instead, and maintain some exposure to equity markets in their remaining funds.
“If equity markets subsequently recover, an annuity could always be taken at a later date,” said James Sumpter, financial planning director of Bestinvest, the independent financial advisers.
New pension products have emerged in recent years that offer an alternative to investors who don’t want to be locked into a conventional annuity or take the risk of income drawdown. These flexible or variable annuities deliver a guaranteed minimum payment alongside the potential for capital growth.
However, pension investors who are already in capped drawdown and coming up to their five-yearly income reviews will face big drops in their income. This is due to a ‘quadruple whammy’ of lower pension fund values, a fall in gilt yields, less generous income drawdown rates, and a cut in the maximum drawdown allowed, from 120 per cent of an equivalent annuity to 100 per cent.
“We recommend that a safe rate of withdrawal [from pension funds] for those that want a sustainable level of income that can rise in line with inflation is 4 per cent,” said Sumpter. “Equity weightings of around 40 per cent would be appropriate to achieve this return, with the remaining 60 per cent in less volatile assets such as bonds, absolute return funds, cash and gilts.”
Get alerts on Pensions when a new story is published