Restricting the ‘doomsday’ scenario in living annuities

Pressures on financial advisors to help clients select the right funds.

A small percentage of people opt to manage their own investments but for the majority who have funds to invest, they hand over this responsibility to the professionals.

For retirees, financial advisers will generally recommend an annuity, which will be on a linked investment service provider (LISP) platform, where they are faced with the choice of hundreds of funds and dozens of asset managers. This makes decisions on which asset manager or which mix of funds to invest in extremely difficult.

While an ever-increasing range of choice offers investors increased investment flexibility, it also puts a huge amount of pressure on the financial adviser, whose fund-selection advice can significantly affect retirees’ income.

David Lloyd, managing director for innovation at Liberty, believes that its new Bold Living Annuity product goes quite some way to alleviate this pressure, as once the mix of funds that get selected starts to produce a return, and the guarantee goes up, the pressure subsides.

“It helps restrict the doomsday scenario”, he says, referring to the financial adviser’s nightmare of a stock market crash which wipes out all the gains that have been made with retirees’ funds or, worse still, creates losses.

Clients, with their advisers, can now choose any mix of funds and change them at any time from a broad range of asset managers that LISP-style products offer with a Liberty high water mark guarantee on the returns that the mix of funds generates. As such, the financial adviser can sleep much easier at night, says Lloyd. Better still, he says, this comfort offsets the increased risks of higher-performing funds so allowing more top-performing funds to be selected.

“There is widespread acceptance that this product helps solve the key issue of living annuities” he says. This is because there is now an option to invest in hundreds of funds in any combination with the ability to switch without any fees and no change to the guarantee.

The combination of risk and guarantees does come at a cost, however. A quarterly high water mark guarantee is very valuable and can be prohibitively expensive. “For example, single funds that feature something similar can typically carry total costs of 3% to 4% per annum.”

Liberty has worked at reducing the cost, with a once off charge of 1% due on day one and there’s only a further charge if and when an investor’s aggregate return exceeds 14% in any year. If it does, then at the end of the year it deducts 20% of any growth in excess of the 14%. But, investors can switch off the guarantee at any time and when they do, if their return that year doesn’t exceed the 14%, then they pay nothing.

“This means full flexibility is maintained and investors only really pay for the performance guarantee once it becomes particularly valuable,” Lloyd says.

The best outcome for financial managers is to be able to pursue inflation-beating targets while being protected from major market downfalls and at the same time, to be able to switch funds.

This does not mean short-term prices and volatility can be avoided or that a long-term downturn will not affect investment returns. But it does limit the downward risk, which is important for retirees.

No matter their risk appetite, they have, in most cases, a limited income and their savings need protection. It also gives them back some control over their investment and allows them to leave a legacy.

This article was sponsored by Liberty.

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After decades of 4%+ p.a. fees and poor returns, no one in their right mind trusts this financial franchise. All the hidden costs, the exorbitant early termination fees and poor service leaves a lot to be desired.

Wow, Liberty is really pushing this product, this must be the 4th advertorial on Moneyweb dealing with it in the last 2 months.
Investors beware. Guarantees like these have been with us for ages. They are great marketing tools, and pay Liberty brokers a nice bonus commission, and earn Liberty’s shareholders nice bonus profits, but you the investor has to pay for it.

The problem with a guarantee is that there is no guarantee your counterparty (liberty) will be in a position to honour it when you need it.

Insuring against a stock market crash is not like insuring against a car crash. The insurer can’t pool the risk. Everyone who is insured will claim at the same time when the crash comes.

That is why insurance company stock prices tank so dramatically during a financial crisis, the market knows that they will be bankrupted if they have to meet their guarantees.

Without government bailouts 2008-9 would have seen many insurers defaulting on their guarantees.

Guarantees are a great way for insurers to leverage their balance sheets to earn easy profits – but the poor client who sacrifices a huge % of their retirement income to pay for these guarantees will find that this same balance sheet is worthless when they need to claim against it.

The only proven risk management strategy for an investment portfolio is to assess your ability, need and willingness to take risk, and to diversify your portfolio accordingly.

To retirees
Have 3 years funds available in the form of money market, hard property, gold etc. Rest of fund invest in ETFS.
Longest market crash in history, great depression of 1929, only lasted 3 years.
To hell with all these “schemes”from Liberty, Sanlam etc etc designed to enrich themselves while retirees barely make it month to month.

End of comments.

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