Why not use inflation-adjusted SPIA?

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toto238
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Why not use inflation-adjusted SPIA?

Post by toto238 »

I've heard people say that Social Security is the "best annuity" you can have. That is mainly due to the fact that it gets cost of living adjustments, and is backed by a reputable source. Pensions are going the way of the dinosaur, and many here and elsewhere seem worried about that loss.

So we come up with these complex schemes involving withdrawing 4% of our savings, variable based on inflation and/or market performance, sometimes taking out of stocks, sometimes taking out of bonds, etc etc. And those are all fine.

But at a certain point, maybe what you need is simpler than that. What you need is Social Security, but for a higher dollar amount. You want constant income that gets adjusted upwards for inflation. From a reliable source. I don't need the possibility of my income increasing in real terms. I just need my income to stay constant in real terms.

But inflation-adjusted SPIAs are a thing! And you can get them from a highly-stable insurance company, and you'll get inflation adjustments to your monthly income every year.

I got a couple quotes from Vanguard's Income Solutions for a 65-year-old male looking for life-time income with adjustments made according to CPI.

The cash flow rate they were offering was somewhere between 4.5% and 5.0% depending on the institution and fine print.

For a 70-year-old male looking for life-time income with adjustments made according to CPI: 5.5% to 6%

So if you're a 70-year-old with $1million and need to create $40,000 of income, you could use the 4% SWR. Or you could get an inflation-adjusted SPIA at 5.5% and only spend $727,000. Then your other $272,000 could be used as an emergency fund or as a legacy or maybe for the greatest vacation ever.

The main criticism I've heard of SPIAs is that they lose value over time due to inflation. And I understand that. But if you can get inflation-adjustments, from a reliable source, what's the problem? Sure it may not be as safe as the US Government, but it's pretty darn close, and you can split it between 2 or 3 different places if that makes you feel better.
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Re: Why not use inflation-adjusted SPIA?

Post by Gill »

toto238 wrote:But if you can get inflation-adjustments, from a reliable source, what's the problem? Sure it may not be as safe as the US Government, but it's pretty darn close, and you can split it between 2 or 3 different places if that makes you feel better.
I would agree with you, but I don't believe you can find an insurance company that is willing to take the risk of fully protecting you against inflation. The policies offered through Vanguard ar elimited to a maximum increase of 5% per year.
Gill
Last edited by Gill on Wed Mar 11, 2015 3:42 pm, edited 1 time in total.
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Re: Why not use inflation-adjusted SPIA?

Post by dhodson »

That return includes return of principle

Costs drag the return also selection bias since only healthy buy it. They actually use different tables than life insurance.

Inflation ones give a much lower initial payout

They are however in my opinion good for some portion around age 80 when mortality credits increase

I'd however buy a non inflation product
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toto238
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Re: Why not use inflation-adjusted SPIA?

Post by toto238 »

Gill wrote:
toto238 wrote:But if you can get inflation-adjustments, from a reliable source, what's the problem? Sure it may not be as safe as the US Government, but it's pretty darn close, and you can split it between 2 or 3 different places if that makes you feel better.
I would agree with you, but I don't believe you can find an insurance company that is willing to take the risk of fully protecting you against inflation.
Gill
I got two quotes from insurance companies that would adjust based off of CPI. I don't know if there's some sort of fine print on that. Maybe a max limit of some kind. Has anyone seen any loopholes in inflation-adjust SPIAs?
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Re: Why not use inflation-adjusted SPIA?

Post by Gill »

toto238 wrote:
Gill wrote:
toto238 wrote:But if you can get inflation-adjustments, from a reliable source, what's the problem? Sure it may not be as safe as the US Government, but it's pretty darn close, and you can split it between 2 or 3 different places if that makes you feel better.
I would agree with you, but I don't believe you can find an insurance company that is willing to take the risk of fully protecting you against inflation.
Gill
I got two quotes from insurance companies that would adjust based off of CPI. I don't know if there's some sort of fine print on that. Maybe a max limit of some kind. Has anyone seen any loopholes in inflation-adjust SPIAs?
As I posted above, the SPIA's offered through Vanguard are limited to 5% a year.
Gill
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Re: Why not use inflation-adjusted SPIA?

Post by Aptenodytes »

The conventional wisdom is that they are too expensive. I have not explored the details personally.
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toto238
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Re: Why not use inflation-adjusted SPIA?

Post by toto238 »

dhodson wrote:That return includes return of principle

Costs drag the return also selection bias since only healthy buy it. They actually use different tables than life insurance.

Inflation ones give a much lower initial payout

They are however in my opinion good for some portion around age 80 when mortality credits increase

I'd however buy a non inflation product
How much of it is "return of principle" is irrelevant. It's not an investment. You're purchasing an income stream that's guaranteed against inflation.

And yeah, inflation-adjusted gives a lower payout. a 65-year-old could get 4.5% to 5% inflation adjusted, but non-inflation-adjusted they could get closer to 6.5 to 7%.

But I'm not comparing it to something that can't adjust for inflation. I'm comparing it to something that is supposed to be adjustable to inflation, like the SWR of 4%.
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Re: Why not use inflation-adjusted SPIA?

Post by Stonebr »

toto238 wrote:
Gill wrote:
toto238 wrote:But if you can get inflation-adjustments, from a reliable source, what's the problem? Sure it may not be as safe as the US Government, but it's pretty darn close, and you can split it between 2 or 3 different places if that makes you feel better.
I would agree with you, but I don't believe you can find an insurance company that is willing to take the risk of fully protecting you against inflation.
Gill
I got two quotes from insurance companies that would adjust based off of CPI. I don't know if there's some sort of fine print on that. Maybe a max limit of some kind. Has anyone seen any loopholes in inflation-adjust SPIAs?
Insurance companies use TIPs (or hedges based on TIPs) for CPI adjusted annuities.
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toto238
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Re: Why not use inflation-adjusted SPIA?

Post by toto238 »

Gill wrote:
toto238 wrote:
Gill wrote:
toto238 wrote:But if you can get inflation-adjustments, from a reliable source, what's the problem? Sure it may not be as safe as the US Government, but it's pretty darn close, and you can split it between 2 or 3 different places if that makes you feel better.
I would agree with you, but I don't believe you can find an insurance company that is willing to take the risk of fully protecting you against inflation.
Gill
I got two quotes from insurance companies that would adjust based off of CPI. I don't know if there's some sort of fine print on that. Maybe a max limit of some kind. Has anyone seen any loopholes in inflation-adjust SPIAs?
As I posted above, the SPIA's offered through Vanguard are limited to 5% a year.
Gill
5% is the maximum inflation adjustment they'll do? I was looking through the fineprint and couldn't find that.
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Re: Why not use inflation-adjusted SPIA?

Post by curmudgeon »

It is a reasonable option. If you want a SPIA that is joint between two of you, it is quite a bit more expensive. Also if you want to start it at an earlier age. And, of course, they remove the potential for leaving an inheritance. So it works quite well for a single with no heirs.

If the inflation adjustment ends up being understated (see official inflation rates for places like Argentina or Venezuela), the same issue is likely to apply to SS. I would always want to have some level of reserves beyond SPIA/SS, but if I were single, I would give real thought to putting half of my retirement savings into about three IA SPIAs, probably spacing out the purchases across a few years.
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Re: Why not use inflation-adjusted SPIA?

Post by lack_ey »

In theory inflation-adjusted SPIAs are nice, but the current reality (as reported by others; I am decades away and have not done due diligence) seems to be that they are even less popular than normal SPIAs and so pay less than expected and are offered by fewer providers, which may explain some of that discrepancy. In other words, they're worse deals in that the premium for inflation protection is too large to be explained solely by market inflation expectations, e.g. Treasury/TIPS spread. Thus, with typical inflation you are getting gypped a bit.

That's in addition to caps on inflation adjustment if applicable.
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toto238
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Re: Why not use inflation-adjusted SPIA?

Post by toto238 »

This is a copy-paste from the terms and conditions of the quote I got for a 5.8% cash flow rate:
Explanation of CPI for Principal Life Insurance Company
 The change in the periodic benefit will be based on the change in the
Consumer Price Index for All – Urban Consumers (CPI-U).
 The periodic benefit will be adjusted annually, on the payment start date
anniversary.
 There is no cap on the amount of increase.
 Should the change in the CPI-U be negative, the periodic benefit will not
decrease. A future year’s CPI-U adjusted periodic benefit will never be less
than the preceding year’s periodic benefit.
 If the change in the CPI-U is negative, there is a cumulative “catch-up”
provision. A future year’s periodic benefit will not change until the positive
change in the future CPI-U is sufficient enough to offset any prior negative
years(s).
Example of Catch-Up Provision
(Assumptions: Year 1 CPI-U Value is 100; client is receiving $1,000/mo. Benefit)
Year Hypothetical CPI-U Value CPI-U Adjusted Benefit
1 100.0 $1,000
2 105.0 $1,050
3 99.0 $1,050
4 103.0 $1,050
5 107.0 $1,070
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Re: Why not use inflation-adjusted SPIA?

Post by powermega »

It is impossible for an annuity company to determine the present value of future payouts (and thus your total premium for the SPIA), unless the future values are known at the time of the calculation. In other words, the max COLA adjustment is known at the time of the calculation. If someone is saying that they will "adjust with the CPI", that implies that they MUST have a cap on the COLA increase you can get from one year to the next.

If you want a SPIA that has COLA adjustments, there is nothing wrong with that, but I think you would be better off getting one that has a set adjustment, say 3%, so that your payments always go up by that amount, regardless of some other benchmark like the CPI.
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Re: Why not use inflation-adjusted SPIA?

Post by plannerman »

curmudgeon wrote:It is a reasonable option. If you want a SPIA that is joint between two of you, it is quite a bit more expensive. Also if you want to start it at an earlier age. And, of course, they remove the potential for leaving an inheritance. So it works quite well for a single with no heirs.
I agree with this.

I'm married and have kids I would like to leave an inheritance.The primary reason I've chosen not to at least partially annuitize with a Inflation adjusted annuity, however, is you leave a lot of cash on the table (or more likely in the insurance company's pocket) The cash flow from a joint inflation adjusted annuity it is very close to what you can get from a portfolio using SWR assumptions. SWR assumptions are worse case. The most likely event is not worse case rather your portfolio will grow substantially. If you annuitize you will be giving up that upside potential.

I have been retired for 16 years and my portfolio is about double what it was when I retired. If I had annuitized when I retired, I would be stuck spending less than half of what I could be spending today--if I chose to spend it.

plannerman
Last edited by plannerman on Wed Mar 11, 2015 4:38 pm, edited 2 times in total.
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Re: Why not use inflation-adjusted SPIA?

Post by 555 »

I've read that the pricing of them is less actuarily fair than nominal SPIAs, but I don't know how to confirm this.

It is true that they are riskier for the insurance company, since the payouts are more heavily weighted to the future when there is more uncertainty about survivor numbers, and they also have to worry about the selection bias, where the people buying the annuities tend to live longer than the general population. These comments also apply to annuitites have payout increasing by a fixed percentage per year, rather than (hopefully) tracking actual inflation. The insurance companies will charge you to cover these extra risks/uncertainties.

The price of an annuity matters. It may be that an inflation-adjusted SPIA is a good idea in pricipal, but not a good deal yet.
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Re: Why not use inflation-adjusted SPIA?

Post by Kevin M »

toto238 wrote:
 There is no cap on the amount of increase.
This seems pretty clear. Perhaps someone could post a reference as to why they think there is or must be a cap, when this states clearly that there is not.

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Re: Why not use inflation-adjusted SPIA?

Post by itstoomuch »

I-SPIA has the same problem of SPIAs. If you die too early, heirs lose the remainder. This may not be a concern for some, but for me it is like buying a whole life policy. A deferred 1-SPIA also has the caveat where if you die in the deferred period, the annuity is lost, unless you purchase an insurance rider.

A purchaser could be a big winner if future inflation is <3% (see 2% threads).

Disclaimers: We have ~50% of future retirement income in GWIB deferred annuities. I too am looking at SPIA and I-SPIAs to replace some of the GWIB annuities. I had a lot of detractors when we purchased these retirement products in 2008 and 2011. However we are still net gainers and controlled our potential downside while enjoying a good portion of the market upside.
Our GWIB A's are single life but with a remainder from unused "account" bucket. If we decide to do SPIA/I-SPIAs they would also be single life and would be no more than 50% of the current GWIB A's.
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Re: Why not use inflation-adjusted SPIA?

Post by Kevin M »

toto238 wrote:Sure it may not be as safe as the US Government, but it's pretty darn close, and you can split it between 2 or 3 different places if that makes you feel better.
Agreed that in theory it makes sense, but William Bernstein states in his lifecycle investing book that he would not bet his retirement on the safety of an insurance company. He does list it as an alternative for one's liability matching portfolio though. Seems like splitting it up should help, and it may be the only feasible alternative for some, regardless of systemic risk.

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Re: Why not use inflation-adjusted SPIA?

Post by nisiprius »

Gill wrote:
toto238 wrote:But if you can get inflation-adjustments, from a reliable source, what's the problem? Sure it may not be as safe as the US Government, but it's pretty darn close, and you can split it between 2 or 3 different places if that makes you feel better.
I would agree with you, but I don't believe you can find an insurance company that is willing to take the risk of fully protecting you against inflation. The policies offered through Vanguard ar elimited to a maximum increase of 5% per year.
Gill
No.

They are not.

This may have once have been the case. I don't think it's been true for a long time.

This is not true of the policy I purchased about seven years ago through Vanguard.

This is not true of the policies that I see when I get a quotation through Vanguard currently.

Image

Quotation based on:
Annuitant's state of residence: MI
Product type: Immediate Income Annuity
Income timeframe: Begin receiving payments within the next 12 months.
Annuitant elected to begin receiving payments on (commencement date): 5/1/2015
Annuitant will be depositing: $100,000.00
Source of funds: Non-Qualified (after-tax) assets
Cost basis: $100,000.00
Annuity type: Single Life Only Annuity
Annuitant's birth date: 1/1/1950
Annuitant's gender: M
Annuitant's spouse is the sole beneficiary: Yes
Annuitant will be receiving inflation adjusted quotes linked to changes in the CPI-U Index and separate quotes with a fixed annual increase of 3%
Estimated deposit date: 4/10/2015
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Re: Why not use inflation-adjusted SPIA?

Post by Professor Emeritus »

plannerman wrote:.
I'm married and have kids I would like to leave an inheritance.The primary reason I've chosen not to at least partially annuitize with a Inflation adjusted annuity, however, is you leave a lot of cash on the table (or more likely in the insurance company's pocket) The cash flow from a joint inflation adjusted annuity it is very close to what you can get from a portfolio using SWR assumptions. SWR assumptions are worse case. The most likely event is not worse case rather your portfolio will grow substantially. If you annuitize you will giving up that upside potential.

I have been retired for 16 years and my portfolio is about double what it was when I retired. If I had annuitized when I retired, I would be stuck spending less than half of what I could be spending today--if I chose to spend it.

plannerman
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Re: Why not use inflation-adjusted SPIA?

Post by bhsince87 »

I think it's a fine idea and will probably buy one myself at some point. They often get a bad rap because some not-so-good deals get pushed by commission driven salesmen advisors.

I think modern reverse mortgages are worth a look too. But I usually get shouted down for saying that. :(

We have no heirs or legacy wishes, and I understand that can be a factor for many.
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Re: Why not use inflation-adjusted SPIA?

Post by Gill »

toto238 wrote:5% is the maximum inflation adjustment they'll do? I was looking through the fineprint and couldn't find that.
Look at the application for an SPIA on Vanguard's website. On their inflation adjusted annuities they limit them from 1% to 5%. Thet don't offer a true inflation adjusted annuity indexed to a standard measurement of inflation.
Gill
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Re: Why not use inflation-adjusted SPIA?

Post by nisiprius »

toto238, I agree with you.

With regard to Social Security, the consensus is that delaying Social Security is similar in its effect to buying an inflation-adjusted SPIA, but a better deal, I saw one rough estimate for one set of circumstances was that spending down an investment portfolio in order to delay Social Security "buys" you about 8% more income than spending the same amount on purchasing an inflation-adjusted SPIA from an insurer.

However, I think it makes all the sense in the world to provide a floor income sufficient to meet basic expenses by using guaranteed lifetime income, and if Social Security won't do it--even if deferred to age 70--then it makes sense to buy an SPIA. And if one's life expectancy is long enough for inflation to be a serious risk, then it makes sense to buy an inflation-adjusted SPIA.

I bought one, for all the reasons you mention.

I can "explain" why people don't do this, I think.

First of all, everybody who is in the investment industry has a direct financial interest in having you invest your money with them instead of buying an insurance policy from an insurer... and vice versa, of course. But the result is that there is an anti-annuity bias in people who belong to the world of investments. This bias, among other things, sometimes takes the form of criticizing annuities "because they don't protect against inflation." Well, the SPIAs that don't protect against inflation don't, and the ones that do, do.

Second, there is a range of objections to SPIAs which just have to be evaluated on their own merit. The three big issues are: 1) an SPIA basically gives you more money by giving your heirs less; depending on your circumstances, this may not be what you want to do; 2) an SPIA is an irrevocable, permanent commitment. (It has to be to make the annuity work, if you think about it); 3) the situation with respect to "the insurer going bankrupt" is complicated, and the insurers have made it worse by, in effect, keeping the role of state guaranty associations all but secret.

One, one other detail that needs to be thrown into the balance. Even if we say the portfolio and the annuity can both generate about 4% or whatever, it's not apples-to-apples. A 4% (or whatever) "safe withdrawal rate" is one that might, under the worse cases in the simulation, draw the portfolio down almost to zero. But in most simulation runs doesn't. In fact most of the time it will grow, in dollar numbers and very likely in real value. So the situation is that with an inflation-adjusted SPIA you have very secure income for you, free from stock market risk, and free from longevity risk, but the income stream ends when you die, and there's no residual value. With the investment portfolio and a "safe" withdrawal rate you are (in my opinion) subjecting yourself to quite a meaningful amount of uncertainty, but the likelihood is that there will be quite a lot left at the end for someone to inherit.
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Re: Why not use inflation-adjusted SPIA?

Post by nisiprius »

Gill wrote:
toto238 wrote:5% is the maximum inflation adjustment they'll do? I was looking through the fineprint and couldn't find that.
Look at the application for an SPIA on Vanguard's website. On their inflation adjusted annuities they limit them from 1% to 5%. Thet don't offer a true inflation adjusted annuity indexed to a standard measurement of inflation.
Gill
NO, YOU ARE MISREADING THE WEBSITE. There are SPIAs that are indexed to CPI-U, and when I've gotten quotations entering various state names, I have always been offered at least two true inflation-indexed annuities. The ones I just got a quotation on have no cap or limit. I showed you the screenshot, above.

It is also possible to buy a different kind of SPIA that pay out an amount that increases every year by a percentage you choose, which is the same every year and may be more or less than inflation. Vanguard offers these, too. For example, you might choose $1,000/month with a 5% annual increase. It would pay out $1,000/month for the first year, $1,050 for the next year, $1,102.50 the next year (it compounds). As you say, this could be greater or less than inflation, and it's an unpleasant guessing game. More insurers offer this kind of policy than CPI-U indexed policies.
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Re: Why not use inflation-adjusted SPIA?

Post by powermega »

Even if the annuity company is willing to sell you an annuity that does not have a cap on the cost of living adjustment (COLA), they are using a capped COLA in their premium calculation. It is impossible to calculate the present value of a future amount if you do not know what that future amount is. This is why I don't think an annuity that has a variable COLA is such a good idea. The annuity company will calculate the premium assuming some COLA rate, probably based on the historical CPI-U rates over the last XX years. If the variable COLA rate you experience is higher than the rate they used at the time of the premium calculation, then you "win". The question to then ask yourself is, do you think annuity companies are going to price a variable COLA SPIA such that you "win" most of the time? That answer should be obvious: NO. They will use an assumed COLA that the CPI-U is unlikely to exceed most of the time.

That is why I believe you're better off with a SPIA that does not have a COLA, or one that has a pre-defined COLA. By doing so you eliminate the risk that the COLA you actually experience is less than the COLA that was assumed at the time of the premium calculation, resulting in a needlessly smaller income from the SPIA.
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Re: Why not use inflation-adjusted SPIA?

Post by 555 »

@powermega
part of what you are saying can be rebutted by the fact that
TIPS exist.
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Re: Why not use inflation-adjusted SPIA?

Post by Johno »

Gill wrote:
toto238 wrote:5% is the maximum inflation adjustment they'll do? I was looking through the fineprint and couldn't find that.
Look at the application for an SPIA on Vanguard's website. On their inflation adjusted annuities they limit them from 1% to 5%. Thet don't offer a true inflation adjusted annuity indexed to a standard measurement of inflation.
Gill
+1 to Nispirus: you are misunderstanding. The SPIA's you are referring to are not CPI-U adjusted ones 'limited' to 5%, they are non-CPI adjusted SPIA's where the annuitant chooses a fixed % increase per year rather than a level amount based on the annuitant's expectation of inflation (or any other reason they want higher payments later on than in the beginning). But those SPIA's will not adjust according to CPI at all. And therefore, the effective rate is essentially the same as level payment SPIA's, 6-ish%. A CPI adjusted annuity does what it says, adjusts upward with CPI changes whatever they are. But in return the rates are only 4-ish%.

Why not use inflation adjusted SPIA's? 'They don't really exist' is the wrong answer, they do. Possible answers are credit risk and pricing in conjunction with a fairly narrow market. Lots more ins co's offer non-inflation adjusted than inflation adjusted SPIA's which limits diversification at close to the best price and best prices are probably somewhat further off full actuarial value. However on balance I don't see a reason not to consider them, especially for people who have otherwise come up with extremely conservative estimates of the 'SWR' they need based on worst case financial outlook plus best case longevity outlook. If you think you need to limit SWR to any less than perhaps 3.5%, and not especially to leave money to heirs, then IMO you should be at least looking at SPIA's. And there's a seeming bias against SPIA's where some people seem to be looking for excuses to reject them. For example a lot of people here seem not to like TIPS; I always wonder if there's zero overlap between those people and the ones who reject fixed rate annuities because they don't protect against inflation, or if some are contradicting themselves. Anyway CPI adjusted SPIA's definitely exist and aren't a panacea but have a role to play.
Last edited by Johno on Wed Mar 11, 2015 5:41 pm, edited 1 time in total.
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Re: Why not use inflation-adjusted SPIA?

Post by nisiprius »

Kevin M wrote:
toto238 wrote:
 There is no cap on the amount of increase.
This seems pretty clear. Perhaps someone could post a reference as to why they think there is or must be a cap, when this states clearly that there is not.

Kevin
1) Once upon a time I think they may have had such caps.

2) The Vanguard's annuity partner, Income Solutions, has a website presentation that could easily confuse someone if they weren't actually trying to get a quotation. It looks like this:

Image

If you answer "yes," and check 3%, you are asking for two different sets of quotations at the same time.
a) Yes, I want to see quotes for CPI-U indexed SPIAs from the companies that offer them.
b) Yes, I also want to see exactly-3%-increasing SPIAs from the companies that offer them.
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powermega
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Re: Why not use inflation-adjusted SPIA?

Post by powermega »

555 wrote:@powermega
part of what you are saying can be rebutted by the fact that
TIPS exist.
The "company" (US government) that sells TIPS also has the ability to print money if necessary. Annuity companies do not have that ability.
Even a stopped clock is right twice a day.
bhsince87
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Re: Why not use inflation-adjusted SPIA?

Post by bhsince87 »

powermega wrote:
555 wrote:@powermega
part of what you are saying can be rebutted by the fact that
TIPS exist.
The "company" (US government) that sells TIPS also has the ability to print money if necessary. Annuity companies do not have that ability.
But the insurance companies do have the ability to buy TIPS!
"If ye love wealth better than liberty, the tranquility of servitude better than the animating contest of freedom, go home from us in peace." Samuel Adams
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Ketawa
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Re: Why not use inflation-adjusted SPIA?

Post by Ketawa »

bhsince87 wrote:
powermega wrote:
555 wrote:@powermega
part of what you are saying can be rebutted by the fact that
TIPS exist.
The "company" (US government) that sells TIPS also has the ability to print money if necessary. Annuity companies do not have that ability.
But the insurance companies do have the ability to buy TIPS!
Agreed, the insurance company buys TIPS, then when the government prints money, it causes inflation and part of it goes to...the insurance company. They can clearly insure against unexpected inflation.
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powermega
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Re: Why not use inflation-adjusted SPIA?

Post by powermega »

Ketawa wrote:
bhsince87 wrote:
powermega wrote:
555 wrote:@powermega
part of what you are saying can be rebutted by the fact that
TIPS exist.
The "company" (US government) that sells TIPS also has the ability to print money if necessary. Annuity companies do not have that ability.
But the insurance companies do have the ability to buy TIPS!
Agreed, the insurance company buys TIPS, then when the government prints money, it causes inflation and part of it goes to...the insurance company. They can clearly insure against unexpected inflation.
They might be able to insure against unexpected inflation after the SPIA is issued, but they cannot calculate a premium today unless they know what the future payouts amounts are.
Even a stopped clock is right twice a day.
Dandy
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Re: Why not use inflation-adjusted SPIA?

Post by Dandy »

If your projected withdrawal rate is 4% or more you are likely a good candidate at some age for an immediate or deferred annuity for some portion of your nest egg. Inflation protection reduces the initial payout from the annuity compared to a non inflation annuity. Most insurance companies would be wise to cap the inflation guarantee or else they could go under if they wrote too much of that business and inflation really took off.

Finally, with a spouse your investments support both of you. You need a joint annuity or 2 individual annuities to support both. That further reduces the initial payout of the inflation annuity.

If you do the math, read the fine print and don't commit most of your nest egg, you could have a more secure retirement. But the devil is in the details.
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Re: Why not use inflation-adjusted SPIA?

Post by plannerman »

Professor Emeritus wrote:Well after a 6 year fabulous bull market OF course. Its easy to pick the winner after the race is run
True, but since the cash flow from an inflation adjusted joint annuity is about the same as the SWR from a well diversified portfolio. The only way I could be worse off is if the sequence of portfolio returns were worse than they had ever historically been. Certainly this was/is possible. I'm not particularly risk adverse and thus am comfortable playing the probabilities. Different stokes for different folks.

plannerman
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Re: Why not use inflation-adjusted SPIA?

Post by Ketawa »

powermega wrote:They might be able to insure against unexpected inflation after the SPIA is issued, but they cannot calculate a premium today unless they know what the future payouts amounts are.
This doesn't make sense. If they can insure against unexpected inflation after a SPIA is issued, then presumably they used some kind of PV analysis to determine how much insurance (TIPS) to buy. It isn't any different from buying Treasuries to insure nominal SPIAs. A similar analysis can be used to calculate premiums today.
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Re: Why not use inflation-adjusted SPIA?

Post by itstoomuch »

One alternative that I have been mulling is that the SPIA has a higher initial payout than a I-SPIA with the same initial premium.
If one is OK with the payout with an I-SPIA, then an alternative is to do a SPIA and bank the difference in a CD which accomodates the potential inflatiion and a "return of premium".
:idea:
:annoyed :? :idea:
Rev012718; 4 Incm stream buckets: SS+pension; dfr'd GLWB VA & FI anntys, by time & $$ laddered; Discretionary; Rentals. LTCi. Own, not asset. Tax TBT%. Early SS. FundRatio (FR) >1.1 67/70yo
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toto238
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Re: Why not use inflation-adjusted SPIA?

Post by toto238 »

itstoomuch wrote:One alternative that I have been mulling is that the SPIA has a higher initial payout than a I-SPIA with the same initial premium.
If one is OK with the payout with an I-SPIA, then an alternative is to do a SPIA and bank the difference in a CD which accomodates the potential inflatiion and a "return of premium".
:idea:
:annoyed :? :idea:
I actually did an in-depth analysis on this thread here:

viewtopic.php?f=1&t=155455

What I did was took the leftover money from buying a regular SPIA and put it into TIPS, then bought a new smaller regular SPIA every year to give myself an inflation adjustment based on CPI.

It's a good read.
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Re: Why not use inflation-adjusted SPIA?

Post by itstoomuch »

Sidebar:
I think people always forget or is beyond their current knowledge that Insurance (ie LI) is an derivative (option) on their future estate. Annuity is an derivative (option) on their existing estate. A person can do without an annuity by doing a SWR but then that person takes the market risks.
:beer
Rev012718; 4 Incm stream buckets: SS+pension; dfr'd GLWB VA & FI anntys, by time & $$ laddered; Discretionary; Rentals. LTCi. Own, not asset. Tax TBT%. Early SS. FundRatio (FR) >1.1 67/70yo
itstoomuch
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Re: Why not use inflation-adjusted SPIA?

Post by itstoomuch »

Great.
toto238 wrote: I actually did an in-depth analysis on this thread here:

viewtopic.php?f=1&t=155455

What I did was took the leftover money from buying a regular SPIA and put it into TIPS, then bought a new smaller regular SPIA every year to give myself an inflation adjustment based on CPI.

It's a good read.

toto238
apparently I said something on yur thread.
I just had a neat martini- so I am a bit spaced.
And your conclusion is what?
:beer, I may have another one. :beer
Rev012718; 4 Incm stream buckets: SS+pension; dfr'd GLWB VA & FI anntys, by time & $$ laddered; Discretionary; Rentals. LTCi. Own, not asset. Tax TBT%. Early SS. FundRatio (FR) >1.1 67/70yo
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toto238
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Re: Why not use inflation-adjusted SPIA?

Post by toto238 »

Ketawa wrote:
powermega wrote:They might be able to insure against unexpected inflation after the SPIA is issued, but they cannot calculate a premium today unless they know what the future payouts amounts are.
This doesn't make sense. If they can insure against unexpected inflation after a SPIA is issued, then presumably they used some kind of PV analysis to determine how much insurance (TIPS) to buy. It isn't any different from buying Treasuries to insure nominal SPIAs. A similar analysis can be used to calculate premiums today.
The insurance company can absolutely buy TIPS. And therefore are just as safe if inflation "takes off" as Social Security, since both Social Security and TIPS are in the end guaranteed by the Government of the United States of America.

An insurance company can take 100% of assets collected for these annuities and put them into TIPS. They have then eliminated the risk that runaway inflation will hurt them in any way, shape, or form. If inflation increases by 10%, all their TIPS will have gone up in value by 10%. Thus, no problem.

Now right now the expected inflation premium (based off of the 10year TIPS spread) is about 1.8%. Meaning over the next 10 years, the markets are expecting 1.8% inflation. With a regular SPIA, the insurance company gives you that inflation risk. So you're the one losing 1.8% every year. They can invest the assets safely in regular Treasuries, and if inflation "takes off" and hurts those asset values, then it will also hurt the real value of their obligations, so no worries. So the insurance company can offer a rate for a regular SPIA that accounts for the fact that inflation risk doesn't hurt them at all. So that entire 1.8% inflation premium they don't care about. But with inflation-adjusted SPIAs, the TIPS they buy are paying out 1.8% less per year. Which accounts for exactly the roughly 1.8% less cashflow they offer for inflation-adjusted SPIAs compared to regular SPIAs.

According to my theory, the TIPS spread should directly correlate with the spread between the cashflow rate between regular SPIAs and inflation-adjusted SPIAs.

Any data geeks feel like crunching those numbers?
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toto238
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Re: Why not use inflation-adjusted SPIA?

Post by toto238 »

itstoomuch wrote:Great.
toto238 wrote: I actually did an in-depth analysis on this thread here:

viewtopic.php?f=1&t=155455

What I did was took the leftover money from buying a regular SPIA and put it into TIPS, then bought a new smaller regular SPIA every year to give myself an inflation adjustment based on CPI.

It's a good read.

toto238
apparently I said something on yur thread.
I just had a neat martini- so I am a bit spaced.
And your conclusion is what?
:beer, I may have another one. :beer
Plan "failure" was you couldn't give yourself any more raises, which of course isn't really the end of the world. And when I tested it against historical numbers, I found that there were only two times when the plan "failed" before age 90. And those two times they lasted until 88 and 89. After that point you would not be able to give yourself any further raises.

It's essentially a way to build your own inflation-adjusted annuity. You take on zero market risk, and put everything leftover in TIPS to take on zero inflation risk.
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Re: Why not use inflation-adjusted SPIA?

Post by nedsaid »

I am age 55 and probably 9-10 years from retirement. I am thinking about annuitizing a portion of my nest egg upon retirement, considering either a Single Premium Immediate Annuity or an Inflation-Adjusted SPIA.

The problem is that for me there are too many unknowns. How large will my next egg be upon retirement? What will the state of my health be? What will interest rates be then? Also, a whole lot could change in the markets and in the insurance industry in 10 years and perhaps my annuity options would be somewhat different then. So for me, it is crossing the bridge when I come to it.

One way of thinking about SPIA's and Inflation-Adjusted SPIAs is that with a regular SPIA, you in effect get your inflation adjustment up front. Your payments will start out higher than for an Inflation-Adjusted SPIA but will stay the same. It might take a while for the monthly payments on an Inflation-Adjusted SPIA to catch up with a regular SPIA. There is an awful lot to consider and there is no right answer for this.

I would say that Inflation Adjusted SPIAs are worth consideration. It all depends on your individual situation.
A fool and his money are good for business.
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Re: Why not use inflation-adjusted SPIA?

Post by SpaceCowboy »

powermega wrote:
Ketawa wrote:
bhsince87 wrote:
powermega wrote:
555 wrote:@powermega
part of what you are saying can be rebutted by the fact that
TIPS exist.
The "company" (US government) that sells TIPS also has the ability to print money if necessary. Annuity companies do not have that ability.
But the insurance companies do have the ability to buy TIPS!
Agreed, the insurance company buys TIPS, then when the government prints money, it causes inflation and part of it goes to...the insurance company. They can clearly insure against unexpected inflation.
They might be able to insure against unexpected inflation after the SPIA is issued, but they cannot calculate a premium today unless they know what the future payouts amounts are.
@powermega - I'm sorry, but you're just plain wrong. Besides TIPS there is also a market in Inflation SWAPS and hedges. By your logic, the whole derivatives market could not exist (not saying that playing it is a good or bad idea). You can price things using different techniques than a pure TVM analysis and people in financial markets do everyday. I doubt that most insurance companies issuing I-SPIAs are underwriting the inflation risk themselves.
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Re: Why not use inflation-adjusted SPIA?

Post by toto238 »

nedsaid wrote:I am age 55 and probably 9-10 years from retirement. I am thinking about annuitizing a portion of my nest egg upon retirement, considering either a Single Premium Immediate Annuity or an Inflation-Adjusted SPIA.

The problem is that for me there are too many unknowns. How large will my next egg be upon retirement? What will the state of my health be? What will interest rates be then? Also, a whole lot could change in the markets and in the insurance industry in 10 years and perhaps my annuity options would be somewhat different then. So for me, it is crossing the bridge when I come to it.

One way of thinking about SPIA's and Inflation-Adjusted SPIAs is that with a regular SPIA, you in effect get your inflation adjustment up front. Your payments will start out higher than for an Inflation-Adjusted SPIA but will stay the same. It might take a while for the monthly payments on an Inflation-Adjusted SPIA to catch up with a regular SPIA. There is an awful lot to consider and there is no right answer for this.

I would say that Inflation Adjusted SPIAs are worth consideration. It all depends on your individual situation.
I think a fundamental difference here is whether you think of money as a means to an end or a means to more money.

For me, the money itself isn't of value to me. But what I can do with it is valuable.

Once you've won the game, you're supposed to take your chips off the table. Not keep betting.

If after SS and your paid-off house you determine you need an addition $xx,000 of income per year to maintain a standard of living that is acceptable to you, doesn't it make sense to buy an inflation-adjusted SPIA that will cover that? If you don't have enough for the I-SPIA to cover that, then you didn't save enough. If you have leftover, you can invest it however you'd like and use it for emergency funds, unexpected costs, a legacy for heirs, or gambling a bit in the market.

Think of it as paying to upgrade your Social Security to the level that is the minimum acceptable lifestyle for you.

If you DON'T do this, you are essentially gambling that you'll be lucky enough with market risk that you're willing to risk having a lifestyle below your minimum acceptable lifestyle for the chance of having a lifestyle significantly above your minimum acceptable lifestyle. That's not exactly taking chips off the table.

50 years ago, brokers used to say "sure the stocks I picked didn't beat the S&P 500, but you can't buy an index." Until you could. Bogle gave us that. Today people say "You can't have inflation-adjusted lifetime income without some catch that completely nullifies it." I think we're seeing now, thanks to TIPS and other ways for insurance companies to eliminate inflation risk cheaply, that this is becoming a reality.

Bogleheads is supposed to be the home of the indexers who made the choice to sacrifice the possibility of "outperforming" the market to get "average" returns at low-cost. I feel like putting enough money into an I-SPIA to meet that minimum lifestyle requirement is along the same logic. Yeah you can risk what's important to have a chance of "outperformance", but you risk losing what's actually important. You don't NEED to beat the market to have a successful retirement. You don't NEED to take on market risk with the money that provides your minimum acceptable retirement lifestyle. So why take on risk you don't need to?
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Re: Why not use inflation-adjusted SPIA?

Post by nedsaid »

Toto238, I haven't "won the game" yet and I still need my portfolio to grow.

I am not arguing with you and agree with the points you are making. I am just not at the point where I can say that I have won. Right now, I have a 70/30 portfolio at age 55 and actually my target is more like 60/40 but I have held off because of the very low interest rates. There is a pretty good chance that my fixed income investments will barely match inflation. Pretty much dead money in real terms.

So I am very flattered that you think that I am richer than I really am.

Believe me, I have thought these things over a lot. At some point, I will make some big decisions.
A fool and his money are good for business.
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toto238
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Re: Why not use inflation-adjusted SPIA?

Post by toto238 »

nedsaid wrote:Toto238, I haven't "won the game" yet and I still need my portfolio to grow.

I am not arguing with you and agree with the points you are making. I am just not at the point where I can say that I have won. Right now, I have a 70/30 portfolio at age 55 and actually my target is more like 60/40 but I have held off because of the very low interest rates. There is a pretty good chance that my fixed income investments will barely match inflation. Pretty much dead money in real terms.

So I am very flattered that you think that I am richer than I really am.

Believe me, I have thought these things over a lot. At some point, I will make some big decisions.
Well the alternative that most people here advocate for is a 4% SWR or something similar to that. If you hold off until age 65, or later, you could get a much better SWR than that using an I-SPIA.

Even if you end up falling short of your retirement goal to meet the "minimum acceptable lifestyle", you'll get closer to it with an I-SPIA than with a 4% SWR.
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toto238
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Re: Why not use inflation-adjusted SPIA?

Post by toto238 »

With a 4% SWR wherein you give yourself a raise every year based off of CPI, you still run the risk of running out of money, and on the other hand you run the risk of having a huge amount of money leftover that doesn't do you any good. If your balance doubles, you're not doubling what you're paying yourself. You're just giving yourself the COLA that you planned on. So anything above that you can't touch.

If you do a 4% SWR but do a variable withdrawal, then you risk having to decrease your income some years if the market tanks. And as 2008/09 showed us, the market tanking doesn't always coincide with no inflation. So you could be in a situation where you have to lower your income AND prices are rising.

With the I-SPIA, you get a 5.5%+ withdrawal rate, with virtually no risk of outliving your money (save the risk of the insurance company going under and a state guaranty company not being able to cover you) and no inflation risk. You never have to lower your standard of living. Ever. Guaranteed.

I guess the question you have to ask is what you are investing for. Is it all about the legacy? Or is it a means to an end?

"You can't take it with you"
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Re: Why not use inflation-adjusted SPIA?

Post by powermega »

rrppve wrote:@powermega - I'm sorry, but you're just plain wrong. Besides TIPS there is also a market in Inflation SWAPS and hedges. By your logic, the whole derivatives market could not exist (not saying that playing it is a good or bad idea). You can price things using different techniques than a pure TVM analysis and people in financial markets do everyday. I doubt that most insurance companies issuing I-SPIAs are underwriting the inflation risk themselves.
I'm not saying that the techniques you mention don't exist. I expect annuity companies are hedging against the possibility of inflation that is larger than they expected too. I just think you're overestimating how complicated SPIA premium calculations are though.
Even a stopped clock is right twice a day.
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toto238
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Re: Why not use inflation-adjusted SPIA?

Post by toto238 »

powermega wrote:
rrppve wrote:@powermega - I'm sorry, but you're just plain wrong. Besides TIPS there is also a market in Inflation SWAPS and hedges. By your logic, the whole derivatives market could not exist (not saying that playing it is a good or bad idea). You can price things using different techniques than a pure TVM analysis and people in financial markets do everyday. I doubt that most insurance companies issuing I-SPIAs are underwriting the inflation risk themselves.
I'm not saying that the techniques you mention don't exist. I expect annuity companies are hedging against the possibility of inflation that is larger than they expected too. I just think you're overestimating how complicated SPIA premium calculations are though.
The math being difficult doesn't make it invalid.

There's a lot of math that index funds have to do every day that many of us wouldn't understand. Just because we don't completely understand every single thing they do, doesn't mean we should avoid it.
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Re: Why not use inflation-adjusted SPIA?

Post by itstoomuch »

Gosh, Nesaid, I imagined you to be much older. :oops:
Rev012718; 4 Incm stream buckets: SS+pension; dfr'd GLWB VA & FI anntys, by time & $$ laddered; Discretionary; Rentals. LTCi. Own, not asset. Tax TBT%. Early SS. FundRatio (FR) >1.1 67/70yo
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