Advisor Perspectives
Survey Shows Annuity Usage by RIAs is Growing
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A recent survey showed that only 28% of Registered Investment Advisors (RIAs) are using annuities for clients near or in retirement. But 68% said they would consider them, foretelling a dramatic increase in the coming years.
Those results were from my firm’s (DPL Financial Partners’) survey of 128 RIAs in late 2020 and early 2021 and are summarized in our 2021 RIA Market Assumptions Survey. The survey was designed to measure advisors’ return assumptions for both equity and fixed income for 2021 and explore how they are attempting to offset the negative impacts of persistently low bond yields on their clients nearing or in retirement.
Most advisors responded that the market is in the midst of a long-term decline in interest rates that has direct implications for their clients’ access to reliable retirement income. Nearly all (88%) of the respondents said they have adjusted financial plans to account for low interest rates.
Figure 1
However, was little consensus on how to offset the shortfall. Strategies advisors cited ran the gamut from increasing savings to taking on greater market risk to allocating to insurance products.
Advisors have a yield problem
Advisors agreed they have a problem – or, more accurately, their clients do. Most respondents to the survey were clear-eyed about the prospects for fixed income returns, with four out of five indicating they do not expect yields to exceed 2% in 2021. For perspective, in a DPL survey conducted six months earlier, only one in three advisor respondents estimated fixed income returns below 2%.
Respondents’ longer-term outlook for the fixed income asset class was not much brighter. A full 90% of RIAs said they are using capital market return assumptions of less than 3% for bonds and bond funds in their financial plans.
Figure 2
What about cash? Nearly three-quarters of the respondents said their long-term return assumptions are less than 25 basis-points.
Putting their stock in stocks
Advisor expectations for equity returns were considerably more optimistic, which is important since, as is explored in greater detail below, stocks are becoming an ever-expanding component of retirement portfolios. Just over 40% of respondents said they are using U.S. equity performance assumptions of 4.00% - 5.99% in their planning, with just under 40% using 6.00% - 7.99%.
Advisors were slightly more bullish on global markets, with 47% projecting overall equity returns of 6.00% - 7.99%.
Equities are more expensive than they have ever been. Those assumptions seem fair and are in line with investment banks that are estimating equity returns in similar ranges.
Nearing retirement and adjusting to low yields
Respondents were asked how they are adjusting portfolios for clients nearing retirement and how those clients are adjusting their financial plans to address low yields in 2021.
The most prevalent approach for clients nearing retirement, according to respondents, was to delay the rotation from equities to bonds that advisors historically begin recommending to clients in their 50s. Some 84% of respondents said they are recommending delaying the shift for some or all of their clients.
Shockingly, more than half of respondents are calling on at least some of their clients nearing retirement to increase equity exposure, a consequence of which is to increase sequence-of-returns risk.
Figure 3
Belt tightening was another common strategy, with more than 80% of advisors indicating they are recommending that some or all of their clients boost savings as they head into retirement.
Nearly half the respondents said they have begun recommending annuities – which in many cases offer better yields than bonds and guarantee income for life – to offset lower bond yields for clients nearing retirement. But annuity implementation is not widespread. Among those advisors who recommend annuities, only 15% said they do so for “most” or “all” of these clients.
Survey participants were also asked what adjustments their clients nearing retirement are making to address low yields. They were invited to select multiple answers and the most frequent selection was saving more (59%), signaling a willingness to curtail one’s lifestyle leading up to retirement to help offset low yielding income portfolios.
Figure 4
Other responses included planning to spend less post-retirement (50%), taking on more portfolio risk (46%) and delaying retirement (43%). Among the write in responses: reverse mortgages, investing in alternative assets and “portfolios are not invested for yield.”
These answers indicate that clients are relying on tactics with unpredictable outcomes that are not completely within their control. A near retiree may decide to spend less, but an unexpected health event could easily derail that plan. And, the most popular answer – “saving more pre-retirement” –has very little effect on the outcome of a financial plan as clients often don’t have meaningful amounts of discretionary assets to redirect to savings.
A final question concerning clients nearing retirement was, “How are you addressing sequence-of-returns risk for clients nearing retirement?” (The risk of a sharp and prolonged market downturn just as retirees begin drawing on their savings, which can cripple their long-term financial well-being.) By far the most common strategy, cited by 71% of the respondents, was creating a cash allocation to cover two-to three-years of retirement expenses. With cash yielding less than 50 basis points, this strategy is a costly hedge against sequence-of-returns risk, nor can it ensure there will be enough set aside to weather a prolonged market downturn. Despite the common assumption that spending out of cash is a good strategy should stocks go down, research indicates that higher cash allocations are a drag on portfolio performance and reduce the likelihood that portfolio assets will last.
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Nearly 28% of advisors, however, said they are utilizing a more efficient approach – annuities that can provide continued exposure to non-cash investments, while offering asset protection against market downturns.
In retirement and lookin’ for income (in all the wrong places)
Advisors were asked: “With today’s low interest rates, how are you addressing income for clients in retirement?” The three most common responses were all eye-opening:
Figure 6
The most often-cited strategy for generating income in retirement in an era of record low bond yields was an echo of the previous comments about increasing equity exposure for clients nearing retirement (and no less risky): More than half of respondents (57%) said they are allocating more to dividend-yielding stocks – thereby increasing equity exposure (or, minimally, not reducing it) at a time when, historically, they were reducing it.
The second most often cited approach (38%) was supplementing income by selling equities. Using equities to generate income is using a tool for something it is not designed to do. Equity investments are accumulation vehicles, not income vehicles. Equities cannot generate predictable income that clients say they want, and it introduces sequence of returns risk.
The third most prevalent approach (29%) for dealing with lower interest rates was to tell clients they need to curtail spending – never a fun conversation for an advisor. That was followed by “utilizing an annuity,” which was cited by 28% of respondents.
An increased appetite for annuities
Survey participants interest in annuities may be growing in the context of lower interest rates. The final question asked if they would consider the products in 2021 to supplement fixed income yields for clients who need predictable income and 68% of responding advisors said they would. Since previous survey questions suggested current annuity usage was well below 50%, that represents a material uptick in annuity usage to address income shortfalls.
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This is consistent with our own experience watching advisors grow frustrated with low bond yields and market turmoil and roll low-cost, commission-free annuities into their practices.
Summary
With interest rates in the midst of an historic and prolonged decline, Advisors are recognizing that, for many clients, the old retirement math no longer works.
Some are betting on the equity market and hoping the decade-long hot streak continues. But the stakes are dangerously high for clients. Still others are simply asking their clients to curtail spending – but for how long?
Given the risk in those strategies, it is confounding that a third of advisors refuse to consider an annuity, even for clients whom they acknowledge could benefit from the predictable income it provides. While many advisors are unfamiliar with annuity products and therefore hesitate to recommend them, taking on more equity exposure for clients nearing retirement or recently retired is not the prudent answer to today’s low bond yields.
In the words of economist Michael Finke of The American College of Financial Services, “We all know that an annuity is a tool that is better than any other tool for generating secure retirement income…this was proven in the 1960s.” Why some advisors categorically reject this proven income generator remains a question and concern.
David Lau is the founder and chief executive officer of DPL Financial Partners, a privately held financial services firm that specializes in the development and distribution of low-cost, commission-free insurance and annuity products, as well as technology-driven product discovery tools and education, for Registered Investment Advisors (RIAs) and individual investors.