How a drawdown-annuity blend offers the best of both worlds

One of the major impacts of pension freedoms over the last three and a half years is the increasing percentage of people moving into retirement who have elected to use an income drawdown policy as their primary pension decumulation vehicle, rather than purchasing an annuity, which historically had been the default choice for pension savers at retirement age pre-pension freedoms.

We saw a dramatic plunge in annuity sales from 89,000 in the second quarter of 2013 – about a year before the then chancellor George Osborne went public on pension freedoms, to 17,000 in the fourth quarter of 2016 at the notional annuity market bottom.

Back in 2014, many predicted a 70 per cent to 80 per cent decline in the annuity market and that was pretty much borne out as a healthy £11bn market in 2013 became a more ‘bijou’ £4bn one by 2016.

The annuity market is rebounding, triggering increased investment in product innovation by providers.

Pension freedoms’ strong  “you no longer need to buy an annuity at retirement” message was unfortunately being trumpeted via multiple newspaper headlines across the land at exactly the time when annuity rates were operating at all-time lows, as rising longevity rates, prolonged periods of low interest rates and quantitative easing-inflated gilt prices all worked together to suppress annuity rates – thereby pushing down the retirement incomes that annuity purchasers could hope to secure from the same sized pots a few years before.

However, what is interesting is that today the tide is turning for both annuity rates and their sales.

A combination of factors is running in favour of annuities.

Firstly, interest rates are slowly rising, as are underlying long-term bond prices. These two factors have been pushing up annuity rates for the past two years. Somewhat less expectedly, longevity gains have apparently stalled. We have now banked the easy gains from reducing smoking and the next big challenge – improving air quality – will not come easily or quickly.

Annuity outlook

The resulting outlook for annuity rates continues to look positive right through until 2025, according to RBC Capital Markets. The annuity market is rebounding, triggering increased investment in product innovation by providers.

Furthermore, the outlook for equities, we are told by market observers, is heading for a period of greater volatility, so would-be retirees may be well-advised to search for greater exposure to the guaranteed income certainty that annuities offer.