Annuities and TIPS

Annuities deserve another look.

The Need

Many people don’t like stocks because of risk. They need income. They want security. Annuities can satisfy this need. So can TIPS ladders.

I compared annuities to TIPS ladders. Annuities did better.

Single Payment Immediate Annuities SPIA

I got quotes on annuities available through Vanguard as of August 31, 2007.

Vanguard Annuities

I assumed that the buyer was a Florida male born on September 1 or couple both born on the same date. I assumed that all annuities would begin on January 2, 2008. When applicable, I selected a survivor’s benefit of 50% of the original amount. All annuities were for single life only or for joint lives only.

Here is the income generated from $100000. All annuities include an adjustment for inflation:

Single:
Age 50: $357.24 per month.
Age 60: $451.11 per month.
Age 70: $620.80 per month.
Age 80: $893.09 per month.

Married:
Age 50: $328.36 per month.
Age 60: $403.66 per month.
Age 70: $533.66 per month.
Age 80: $735.46 per month.

Here are the same amounts stated as yearly withdrawal rates:

Single:
Age 50: 4.29%.
Age 60: 5.41%.
Age 70: 7.45%.
Age 80: 10.72%.

Married:
Age 50: 3.94%.
Age 60: 4.84%.
Age 70: 6.40%.
Age 80: 8.83%.

Equivalent TIPS Ladders

Here are the number of years provided by TIPS ladders at the same withdrawal rates assuming a 2% coupon (i.e., real interest rate).

Single:
Age 50: 32 years.
Age 60: 23 years.
Age 70: 16 years.
Age 80: 11 years.

Married:
Age 50: 36 years.
Age 60: 27 years.
Age 70: 19 years.
Age 80: 13 years.

Stated differently, these are the ages at which 2% TIPS ladders run out assuming the same withdrawal rates:

Single:
Age 50: 82 years.
Age 60: 83 years.
Age 70: 86 years.
Age 80: 91 years.

Married:
Age 50: 86 years.
Age 60: 87 years.
Age 70: 89 years.
Age 80: 93 years.

Here are the same data, using today’s 2.4% TIPS (real) interest rate:

Single:
Age 50: 35 years.
Age 60: 25 years.
Age 70: 16 years.
Age 80: 11 years.

Married:
Age 50: 39 years.
Age 60: 29 years.
Age 70: 20 years.
Age 80: 14 years.

These are the ages at which 2.4% TIPS ladders run out assuming the same withdrawal rates:

Single:
Age 50: 85 years.
Age 60: 85 years.
Age 70: 86 years.
Age 80: 91 years.

Married:
Age 50: 89 years.
Age 60: 89 years.
Age 70: 90 years.
Age 80: 94 years.

Planning for Risk Free Income

The annuities did better in all instances. Their life insurance feature increased the income. An individual planning to live on the same income generated by TIPS faces a real possibility of running out of money.

Annuities satisfy a real need.

Those who prefer equities can seek alternative strategies. I favor dividend based strategies that never sell shares. An alternative is to start with a TIPS-based strategy, followed by stock purchases when valuations become attractive. Both of these involve risk, even though it is low. Annuities make sense for those who cannot or prefer not to accept any stock market risk whatsoever.

Have fun.

John Walter Russell
September 1, 2007