Suddenly, “longevity risk” is the phrase on everyone’s lips, and financial institutions are scrambling to address a perceived gap in the market for providing retirement income streams guaranteed for an individual’s lifetime.
First, on Wednesday, AXA announced an enhancement to its successful North product, extending the capital guarantee into the retirement income space. From early next year, North will allow retirees to lock-in a guaranteed minimum income stream for the rest of their lives.
The product offers the potential for an income stream to rise over time, as the capital value of the individual’s retirement savings rises, but it will never fall. It’s based on the same “dynamic hedging” approach used in the product successfully since late 2007.
And today, ING Australia launched Money For Life (MFL), a retirement income product designed to address the same need. It, too, offers a guaranteed minimum income and a potentially rising guarantee, based on a dynamic hedging strategy. (The North guarantee resets every 12 months, the MFL guarantee every 24 months.)
Both products offer essentially the same solution to the same problem, namely that there’s a growing likelihood of retirees outliving their retirement savings.
North and MFL offer to provide a guaranteed minimum level of income for an individual’s lifetime. The level of income is nothing to write home about – 5 per cent of the guaranteed amount – but it’s a start in addressing the issue of how to make sure an individual’s retirement savings last the course.
There’s also the perennial issue of cost. The current generation of lifetime retirement income products (LRIPs) the guarantee can cost anything up to 3.2 per cent a year, including the cost of the guarantee.
Nevertheless, three things have coincided to make these products attractive to consumers, planners and institutions alike. Two of them are well-established trends, but they have been catalysed by the third.
We all know that the population is aging. The Government’s Intergenerational Report of 2007 suggested the proportion of Australians aged 65 or older would grow from 14 per cent in 2007 to 25 per cent in 2047. At the same time, of course, the population is growing, so that’s 25 per cent of a much larger population.
And to compound this effect, retirees are living longer, too. Rising life expectancy and a growing population combine to produce a very real retirement income problem.
But as mentioned, these trends aren’t new. What’s happened to catalyse the thinking and actions of financial institutions is the global financial crisis (GFC), specifically the carnage on global sharemarkets.
If you’re approaching retirement, expecting to live longer than any retiring generation before you and suddenly the value of your retirement savings falls by 25, 30 or 40 per cent, you have a very real problem.
This realisation that markets can and do fall – often savagely – has softened up investors, and made them receptive to the concept of income guarantees.
North and MFL – and doubtless others that will follow – promote as their greatest virtues a minimum income guarantee, a the prospect that income can rise and be guaranteed at a higher level from some point in future if market conditions are favourable, and instant and unfettered access to 100 per cent of capital.
These certainly are attractive features, and allay many of the concerns that have been posed by traditional alternatives, such as lifetime annuities and, to a lesser extent, allocated pensions.
These products need the clout of a big institution, probably a life insurance company with a strong balance sheet and effective prudential supervision. So the number of players that will be able to offer similar products is limited.
But the race is on. North and ING are out of the gate – or at least, North will be in early 2010 – and it’s now up to competitors to emulate or improve upon these initial designs.
It’s also up to financial planners to decide what role such products play in the task of ensuring not only adequate retirement savings, but adequate lifetime retirement income. AXA says it’s had close to $1 billion invested into the pre-retirement iteration of North; it is optimistic that it could match those flows into the retirement income version in a very short space of time.
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