Example 1: Mr Smith buys an annuity
Based on his preference for certainty, Mr Smith’s adviser recommends a lifetime annuity. As at December 2018, the annuity rate for a level single life immediate annuity was 5.2%, providing a lifetime income of £5,200 per year.
Example 2: Mr Smith chooses flexible drawdown and invests in GRIP1
Mr Smith chooses flexible drawdown so he can keep his money invested and aim to grow his pension savings. He transferred his £100,000 pension savings into GRIP1.
He’s taken £5,200 income per year between 2019 to 2022, which is the comparable annuity income rate and is now left with pension savings of approximately £83,000.
Example 3: Mr Smith chooses flexible drawdown and invests in GRIP1 before buying an annuity
Mr Smith invests in GRIP1 and takes an income of £5,200 per year between 2019 to 2022. As per the example above, he now has a pension savings of £83,000. The chart below shows the fund value at the end of each period up to December 2022, assuming he takes a fixed income of £5,200 per year and the comparable annuity income that could be bought with the fund at each period.
Source: Royal London, January 2023
Over a four-year period, performance has been volatile and generally below the rate of income, resulting in a decreasing fund value. However, if we compare the level of income Mr Smith can buy with an annuity at the end of each period, he’s now better off than he was in 2018 despite perceived poor investment returns driven by rising gilt yields. Mr Smith has also benefited from an increasing annuity rate as he becomes older.
Past performance is not a guide to the future. Prices can fall as well as rise meaning your clients may not get back the value of their original investment. Investment returns may fluctuate and are not guaranteed.
Summary
This example highlights how the buying power of pension savings is more sensitive to changes in annuity rates than investment performance. Clients invested in lower risk investment strategies such as GRIP1, with the aim of generating a sustainable level of income to meet essential expenditure, can take comfort that they’re in a stronger position relative to buying an annuity four years ago, despite significant short-term volatility.
For more investment insights, visit Royal London’s adviser website.