Book Review: Pensionize Your Nest Egg by Moshe Milevsky & Alexandra Macqueen

 Pensionize Your Nest Egg exhorts retirees to ensure that a good chunk of their income comes from sources that promise to pay a regular amount as long as they live. That advice is easy to accept given that one of the main risks in retirement is outliving savings.

The next part of the book's advice - how to do it using a combination of three "products" 1) annuities, 2) portfolio of stocks and bonds, 3) guaranteed living withdrawal benefit (GLWB), a complicated insurance company product - is much iffier. This part of the advice is problematic for three reasons, first because of uncertainties around GLWBs, second because the list of retirement risks is incomplete, and third because the list of products or methods to handle the various risks is incomplete.

GLWBs are worrying because they are complicated. There are various inter-acting moving parts that make them a challenge for the consumer, like resets and ratchets on the payout amount, choice of under-lying fund, initial payout rates, and fees. How can a consumer compare offerings from various companies and know which deal is better? Quite competent folks like Peter Benedek's Retirement Action here, Joe Tomlinson on Advisor Perspectives here and Wade Pfau on Advisor Perspectives here have crunched lots of numbers and the best choice of what to do seems to depend a lot on assumptions.

A key tool created by author Milevsky and promoted in the book, the RSQ and FLV calculator, does not put a GLWB into the mix. It only includes an annuity and a stock & bond portfolio. Why not? We are told it is "beyond the scope of this book". The reader is told to consult a financial advisor. Yet on the same QWEMA website, there is an ad for the PrARI calculator, aimed at financial advisors which does include the missing GLWB component, as well it seems, as other missing pieces like unexpected lump sum expenses. The book and the free tool look more like an illustration of concept designed to drive readers to seek out financial advisors than a practical self-serve solution usable by a DIY investor.

A question I keep asking myself was why I should even be interested in a GLWB. There is an excellent little table on page 66 where annuities, stock/bond portfolios and GLWBs are rated for how they offset the three big risks of inflation, longevity and sequence of returns, and for their benefits of legacy value/liquidity, sustainability and growth potential. Annuities and a stock/bond portfolio have exactly opposite offsetting Yes answers where the other is No, while GLWBs are either similar to one or the other, or in between i.e. GLWBs look superfluous.

It's always interesting to think of the position of the product offeror (the old saying is if you are in a poker game and you don't who the chump is, then it's you), the insurance company that sells the GLWB. GLWBs may (it's hard to tell and that is worrisome - we could call it chump uncertainty risk) be a game in large about stock volatility risk. Benedek's simulations found that a GLWB customer was better off if stock volatility is higher. Similarly, this technical paper by Australian researchers from the insurance company perspective suggest that their profits would be highly sensitive to stock volatility, customer mortality volatility and interest rates. Another thought-provoking piece is about GLWB provider Ohio National's different and supposedly more effective and cheaper method of hedging its own risk. It raises the question whether some insurance companies might be headed for a big fall because they don't really understand and control the risks properly. The fact that Assuris covers GLWB income 100% up to $2000 per month and 85% above that (but this is only mentioned in the book with respect to annuities and not explicitly for GLWB payouts as well) helps on the income side but not on the legacy side if the insurance company screws up. Do we really want to be trying to also assess how well the insurance company will handle the investment account to pick a GLWB?

Retirement Risks to wealth and income surely include more than the three (inflation, longevity and market sequence of returns) the book lists. Unplanned events like one-time or chronic health problems, divorce, (grand)child care, elder care can create large negative financial effects. There may be a need for on-going higher cash flow, or a big lump sum. There is a greater requirement for liquidity and flexibility than only an end of life legacy goal the book discusses. Though the book's stated aim is solely to describe how to create a guaranteed lifetime income, the process it proposes excludes such other considerations. Those considerations cannot be separated when deciding how much to pensionize. If you pensionize too much in order to ensure long term sustainability you may suddenly be caught short. Some things like health risks can and perhaps should be handled with long term care insurance but perhaps not if a greater amount of capital is kept in a stock/bond portfolio or if a no-longer needed house can be sold to pay for LTC.

Alternative products and methods to address income/lump sum needs are incomplete. The single best inflation protection product is inflation-indexed aka real return bonds, yet they are not discussed or incorporated into the planning.

The historical stock & bond return and volatility characteristics in the book are taken as given and baked into the RSQ-FLV calculator, yet new portfolio construction methods offer convincing promise to significantly lower volatility (e.g. see this individual investor Smart Beta portfolio). The pension fund and institutional investor world has moved to controlling risk/volatility to improve the return vs risk ratio and individual investors can too to some degree. Even a traditional but more diversified portfolio (i.e. more varied asset classes) will improve the return vs risk figures used by the authors. Changing the  historical assumptions about an investment portfolio's performance can appreciably reduce the likelihood of running out of money using a systematic withdrawal plan, improving its attractiveness in the product allocation structure the book presents.

That's what the book is missing in my view.

What the book does discuss is really well done and worth reading. The writing aims at a general audience. It has lots of good illustrations, clear uncomplicated explanations without difficult technical or mathematical material, very much like Milevsky's other excellent books that simplify and explain potentially confusing subjects. The free online RSQ-FLV calculator still provides insight despite its limitations. Another calculator created by Milevsky the book refers to, the Implied Longevity Yield calculator on Cannex, is very helpful for trying to decide whether current annuity payout and interest rates are propitious for buying an annuity now or later.

The book is to be applauded for forcefully making the critical point many people do not seem to realize that an RRSP balance (or the proposed PRPP) is merely a savings plan, not a pension, since it produces no automatic, guaranteed lifetime income. And they also make the equally critical point that most people need and should have real pension income (except those like Warren Buffett who has so much money he could never possibly run out).

Bottom line: pensionization via product allocation is a worthwhile approach but what the authors leave out is too important to make the book's content good enough for practical retirement income planning. 3 out of 5 stars.

Senate Weighs in With Some Useful Retirement Savings Suggestions but ...

Canada's Senate committee on Banking, Trade and Commerce announced a half-dozen recommendations on how the government could enhance retirement savings in its Oct.19 report Canadians Saving for Their Future: A Secure Retirement.

The recommendation that would likely have the most beneficial effect is the suggestion to establish a Canada-wide plan for retirement saving and investing. The new plan would entail setting up five or so professionally-managed, competitively-sourced investment funds into which savings deductions/contributions of Canadians 18 and over would go. It's a pretty good but incomplete plan. Why?

1. Auto Enrollment - the report calls the plan "voluntary" but that means an optional opt-out, which few people will do. As the famous book Nudge explains (and as the use of the word in the report slyly suggest that the Senate committee is aware of the idea), the difference between voluntary opt-in and opt-out is huge and participation rates will be as good as universal, up in the 90+% range. Goodbye to the costly sales and marketing overhead cost of retail funds because it's a captive market.
2. Fiduciary Duty Governance and Management and Competitive Sourcing - they call it a commitment to avoid "real and perceived conflicts of interest". Professional managers can add diversification, discipline and net value when the fees they charge are restrained - i.e. the gross investment return isn't sucked dry by the fees. Hello to much lower fees from the powerful negotiating position that such a massive plan will have and hello to a resulting much higher net return to investors with much higher end value retirement savings.
   
3. Optional RRSP or TFSA - it is valuable to have the flexibility of being able to contribute to the right account for one's tax situation / income level (the familiar question about whether your tax rate will be lower in retirement - RRSP better, or whether your absolute income is low - TFSA better) and retirement goal (if legacy desired, TFSA better).

The report does not address a few key issues related to this idea:

• Savings Deduction Rate? - how much should it be? Maybe 9% would do, the same as for CPP, which aims to replace about 25% of pre-retirement income, so such a contribution rate in this plan would provide another 25%. A less desirable method would be to allow the contribution rate to be chosen by the contributor but then the new plan should have a default rate with option to change it (another nudge).
  
• Sequence of Returns Risk - the danger of a market plunge, such as happened in 2008, at the intended time of retirement is that the total available to purchase an annuity is vastly reduced and permanently low retirement income would result. The alternative of withdrawals from a RRIF would see much lower sustainable withdrawals. Of course, nobody would retire after a market crash if they possibly could and they would deal with the market returns risk by continuing to work however long it took for market and retirement savings recovery. That's not the only way to deal with this risk though. The method of the CPP is to have a defined benefit payment coming no matter what the state of the market - did the CPP announce a reduction of payments in 2008 even though its investment portfolio dropped about 20%? The reason the CPP can maintain payments is that it can, as a fund with a very long term investment horizon, smooth out market humps and bumps, knowing that savers continue to provide cash inflow. There is time risk sharing going on within CPP that the Senate's proposal lacks, which to my mind is a very important feature of making retirement saving feel secure and actually be so.
• Conversion to Retirement Income, Inflation Risk, Longevity Risk and Annuities - a retirement savings plan, such as the one proposed, must be converted into an income stream and the report does not consider how this will be done, except for brief off-hand references to buying an annuity. Yet the income conversion vehicle, its cost and its effectiveness in countering inflation and longevity risks determine the success of the whole retirement income exercise. This cannot be considered apart from the savings phase method with the assumption that all will be well. Choose an annuity and even low, normal 2% inflation eats away a huge portion of the value of a fixed payment annuity over the longer and longer retirement periods of today. Real constant-value CPI-adjusted annuities are almost absent from the Canadian marketplace. Most annuities on the market in effect provide income for life at a fast (high inflation) or slow declining standard of living. I bet that's not what people want or need. There is also the problem that the market is lop-sided - the people who want to buy annuities are those who figure they will live longer and not those who will die off sooner and whose cash helps maintain a higher standard of living for the survivors. (Those who believe this is unfair could be reminded that sharing the risk means everyone gets higher payments than if no one shares) The annuity-selling insurance companies know about likely-to-live longer annuity buyers of course, and so annuity payouts are even lower. Contrast that with CPP where everyone, early and late deceased, automatically and without choice to opt out, gets into the annuity payment stream. Choose the other option to generate income, a RRIF from which withdrawals are taken, people have the very hard job to figure out how much to withdraw given their uncertainty how long they will live and need income. Live too long and you run out of money. There is no longevity risk sharing. People can either be very cautious, withdrawing slowly, and perhaps live a much more restrained lifestyle than they might have liked, or they can live high, perhaps to discover that they must drastically reduce their spending later on. Pooled assets with no opt out (i.e. with longevity risk sharing) during withdrawal means higher payments for everyone and much less worry along the way. The prime example of a successful end-to-end solution is the CPP - you pay in a certain amount per year and you are guaranteed (by the most stable provider around, the Federal government) a certain inflation-adjusted amount for however long you live.

The report includes several other worthwhile but less significant suggestions:

• Set a TFSA lifetime contribution limit of $100,000, which could be used immediately in full any time e.g. for an inheritance; helps present-day retirees with taxable accounts
  
• Remove the effect of RRSP withdrawals on means-tested benefits; makes things less complicated and less punitive
  
• Defer RRSP conversion age to 75; helps those who work longer
  
• Have the Financial and Consumer Agency of Canada do financial education and monitor investment advisors (I think they mean financial advisors, which is much broader than investment advisors) - pretty wimpy, they could and should have recommended that fiduciary duty for financial advisors be put into law with some body given policing powers
  

Pension Reform: a Comparison of CPP(IB) vs RRSP / RRIF / LIRA / LRIF / LIF

There's been a lot of talk lately in Canada about pension reform, a very necessary and worthwhile subject, but unfortunately most of the analysis is from the viewpoint or from the self-interested position of government, regulators and the financial industry. Herewith I present a modest contribution to the debate by comparing two of the existing major options from the viewpoint of the retiree or pensioner, in whose interest all this reform supposedly is ultimately most important.

The two options:

• Canada Pension Plan (CPP) and its investment arm, the CPP Investment Board - thus my new acronym CPP(IB)
• RRSP / RRIF / LIRA / LRIF / LIF - the family of registered retirement plans available to individuals, first to save for retirement, and then to draw income from during retirement

The objective is to determine which best meets the first and highest priority of retirement income, the essential spending needs to maintain a lifestyle. I defined my criteria for this objective in my post of June 15 Pension Reform and What Retirees Need, so now I turn to the comparison evaluation as promised then.

First order analysis: What the alternatives deliver today, as promised and as possible. The CPP is very straightforward - once you are eligible and fill in the form to start payments, you receive a monthly cheque, indexed (increased but never decreased e.g. during deflation) for inflation, for the rest of your life. The registered plans are more complicated and the income must somehow be created from investments. I've assumed that the pensioner will follow what I consider to be the best available method to invest within the plans - a portfolio of passive index ETFs, possibly with annuities purchased at some point.

Below is a table with my comparisons and ratings. I haven't bothered with an overall score because the CPP is clearly and massively superior based on doing what it does now.


Second order analysis: drilling down beneath the surface, how sustainable and sure, and what are the risks of each alternative. Below is the table for those results. Again, the CPP is Victoria to St. John's distance ahead of registered plans.


Third order analysis: what investing challenges must be met, what effort and skills does each require to be successful. Big surprise huh? A pattern seems to have emerged as the CPP is again far superior to registered plans.


One could say that the CPP is the best thing since, and for, sliced bread.

Annuity Payouts Improving but All Over the Map

Annuity rates move more or less in tandem with interest rates - as interest rates fall, so do annuity payouts. Not long ago, the IFID centre posted a time series going back to 2000 showing sample annuity payouts and implied longevity yield, described as a measure of an annuity's return. It's a handy and welcome way to judge the trend and whether things are getting more advantageous for a retiree to turn a lump sum into an annuity. The recent trend seems to be upwards towards higher payouts e.g. a 65 year old male could get about $680 monthly income at the end of June (it's the latest data apparently) per $100,000 initial premium versus $650 or so last September. The highest it has been was about $740 in 2000-2001 so there is some way to go before rates get really attractive.

It is also worth noting that it is essential to shop around. Cannex has one freebie table of current annuity rates offered by the various providers showing payouts for a single life male with a 10-year guaranteed payout. There is a wide range - a 65 year old can get as little as $594 monthly from Standard Life to as much as $667 from Canada Life or Great_West Life, a 12% difference.

A Good Thing: Assuris Guarantee of Annuities and Insurance Payouts

The failure last year of major financial players like Lehman reminds us that a promise to pay is only as good as the ability of that organization to actually pay. In the case of a life annuity or some form of insurance, one must naturally ask what guarantee there is that a financial company will be around for the twenty or thirty years that an annuity may last, or who will step in if it is not.

The answer in Canada is Assuris, a not-for-profit organization to which all insurance companies are obliged by law to belong. On the failure of any company, it promises to either pay up, or more often, simply have another company take over and continue the coverage or payments. It has its own small "Liquidity" fund of $100 million and can levy up to $900 million more from its members, which it says would more than cover any failure that has occurred in the past.

Whether that would be enough to handle a failure the size of a Great-West which has obligations over $100 billion per its Q1-2009 financial report is debatable. A series of failures in a systemic and cascading crisis could happen, as very nearly happened with banks last autumn. However, as was observed then, some companies and industries are too big and critical to the economy to allow them to fail. The government steps in to provide guarantees and that is the ultimate level of protection for annuities and insurance though it is not formalized as a promise to backstop Assuris.

Assuris does only guarantee 100% of payments up to $2000 per month per insurance company, or 85% of the payment, whichever is higher (example shown here), so it is wise to split up annuities amongst different companies.

Mortality Swaps aka Back-to-Back Annuity and Life Insurance

In a comment on my latest book review Insurance Logic, Mike asked what a Mortality Swap is. The insurance industry apparently uses another term for this investment strategy - Back-to-Back Annuity and Insurance.

The concept is relatively straightforward. Here is an excerpt from the research paper titled Mortality Swaps and Tax Arbitrage in the Canadian Insurance and Annuity Markets by Narat Charupat and Moshe Milevsky:
"We show that by engaging in seemingly counter-intuitive transactions involving two insurance products, one can create a risk-free portfolio whose after-tax return is greater than that of available risk-free securities. The two insurance products in questions are (i) a standard term-to-100 life insurance policy; and (ii) a single-premium fixed immediate life annuity with no guarantee period.
Consider an individual who invests $100,000 in a fixed immediate life annuity, and then uses part of the periodic income from the annuity to pay the premium on a life insurance policy whose death benefit is also $100,000. This 'back-to-back' transaction, which we shall henceforth refer to as a "mortality swap", will create a constant periodic flow of income and will return the original $100,000 upon the death of the policy owner. This payoff pattern is similar to that of a risk-free investment such as a bank deposit whose principal is redeemed (by the individual's estate) at the time of death."

Another description is here.

The Insurance Logic book provides an an example for a 65 year old female based on actual quotes from insurance companies at the time. The risk-free rate of return pre-tax for the assumed 50% marginal tax bracket was 8% and was described as "much higher than comparable bond yields". The rate of return for this strategy was higher the older the age of the woman, using a joint and last survivor policy with the spouse and using leverage (i.e. borrowing to buy the annuity. The basis for the profitability of the whole thing is apparently that only a "relatively small portion" of a prescribed annuity is taxable.

This strategy came up for discussion in the Financial Webring - see the post by jiHymas on Dec.29, 2005 for an opinion on some cons. I had an amusing time phoning the CCRA today trying to get information to confirm whether this is still a kosher strategy but no one over there seems to have heard of it. They suggested asking an insurance company. Guess that would be the logical next step since they are the ones selling this, though an insurance broker who could arrange the two sides (insurance and annuity) from the required two separate companies would also likely be a good source.

Overall it seems that this could form part of the low-risk part of a retirement cash flow, replacing T-bills or money market funds.

Book Review: Wealth Logic by Moshe Milevsky

This is another of York University Finance professor Moshe Milevsky's "Logic" books (previously reviewed Money Logic and soon to be reviewed Insurance Logic) about everyday financial, investing, purchasing and spending choices facing ordinary people. Unless you happen to be a finance prof, it's likely there is something of interest for you in this book. It comprises 40 chapters, of 2 to 7 pages each, on a wide, eclectic range of topics, all somehow connected with personal finances, such as insurance, taxes, mortgages, mutual funds, RRSPs, retirement, car loans vs leasing, investing, diversification, risk, pensions, annuities and more. Each chapter addresses a narrow issue or a choice and gives either a definitive answer when there is one, or guidance on how to make the correct choice, when personal circumstances can change the answer. Conveniently, each chapter gives a one or two sentence summary conclusion - e.g. chapter 10 on What is Financial Risk? concludes: "The lesson in all of this is that only a large and well diversified portfolio of stocks can truly grow in the long run. Otherwise, you are simply gambling." Most chapters have one or two simple tables or graphs that present the result of calculations to back up the conclusions. Milevsky presents the rationale, the "logic" and the conclusions, not any complicated math. He does provide some references and a two-page bibliography for further reading. There is no index, something I would normally consider to be a major deficiency but the nature of the book makes an index un-necessary.

The book is accessible to anyone who has basic knowledge of practical money affairs. Milevsky is good at defining terms for the uninitiated. For example, in "Mortgages: Fixed or Floating Rate?", there is an assumption that a reader generally knows that a mortgage is a loan to buy a house, but Milevsky takes the trouble to write, "With a fixed-rate mortgage, your monthly payments are pre-determined and known in advance ...". The test of accessibility for me is that those topics with which I was not familiar did not cause me to scratch my head wondering how his argument / discussion had got to where it led. Maybe it's his teaching background but it is a valuable writing quality for an author addressing a general audience. The writing style is casual and conversational but not cloying or condescending. It's a good book to read in short chunks of 10-20 minutes, on the bus commuting, waiting at the pool during kids' lessons, during commercial breaks while the Ottawa Senators are winning the Stanley Cup for the first time etc. The whole book is 237 pages.

A very small amount of the content suffers from being out of date, for instance, the rant against the foreign content cap in RRSPs that is no longer relevant since the federal government finally removed the restriction a few years ago. Another is the negotiating spreads on mortgages by Canadian banks - is it still one percent reduction one should demand/expect or have the years since 2001 widened or narrowed the spread?

There is some overlap between Money Logic and this book - topics like diversification, risk, borrowing to lend, dollar cost averaging appear in both. Money Logic treats fewer topics in much more length and depth, doing a better job demonstrating the fallacy of dollar-cost averaging, for instance, though of course the conclusion is the same. So, if you decide you can trust Milevsky and don't need all the proof and only want to buy one book, I'd suggest Wealth Logic. I don't regret buying both, since there is real non-repeated value in Money Logic too.

In short, buy this book ($15 to $20 at the on-line retailers) and keep it around till you need to have a quick look at what to do whenever a financial decision comes up. Milevsky may have your answer in his 40 topics and you can be sure it is well thought out and neutral. Five stars out of five is my rating.

Buy this book at
chapters.indigo.ca

Book Review: Money Logic by Moshe Milevsky

York University finance professor Moshe Milevsky (with co-author Michael Posner) takes us through a series of investment issues in this very worthwhile book, valuable both for its impeccable logic debunking certain common misconceptions and for its informal, readable, common sense approach to providing the explanations. The focus is on principles not on assessment of specific products from individual companies. That is not to say the analysis he presents to the reader is general and not actionable. On the contrary, Milevsky gives us the tools to make our own decision about the topics he covers.

The list of topics includes:

• assessing mutual fund performance
• dollar cost averaging as an investment approach
• the value of segregated mutual funds
• the whys of international diversification
• index-linked GICs
• how to do-it-yourself to get the same benefit as offered by index-linked GICs
• the mortgage paydown vs RRSP invest decision
• asset allocation in retirement - how much equity vs fixed income and why
• after the RRSP years - RRIFs vs annuities
• general discussion of risk or uncertainty in making future decisions and how to factor it in

For each of these topics, Milevsky first explains the nature of the product or issue, with analogies and simple examples, then he brings to bear the logic and the results of research (sparing us the details of the math or the computer models used) to draw out the conclusions or principles. His constant reference to probabilities makes us understand how many of the decisions depend on certain circumstances. For instance, in the annuities vs RRIF chapter, he uses life expectancy statistics to show how the benefit rises progressively (and differently for men and for women due to the longer life expectancy of women) the later the purchase of the annuity is made. His conclusion does not waffle however: "... it therefore makes very little sense in my judgment to convert an RRSP to a life annuity at age 69. The odds say that it makes more sense to wait." Hint: it's age 75 for men and 80 for women. There is also a handy short summary at the end of each chapter.

Though not revised since its publication in 1999, there is little feeling of it being dated. In some cases, like the admonition to us to diversify internationally, it has become more relevant, since the federal government has since removed the RRSP foreign content limit, advocated by Milevsky in the book.

Many people could benefit from reading this book and understanding and accepting some basic conclusions that still rage on as debates in the blogosphere. For instance, dollar cost averaging as an investment approach is stupid because it lowers investment returns, though regular automatic savings that are invested make a lot of sense because most people don't save. In other words, if you have a lump sum available from a lottery win, don't wait to invest it for reasons of dollar cost averaging. If you want to see why, buy Milevsky's book or borrow it from the library. Another topic of this sort is the RRSP vs mortgage payment debate (see here at MillionDollarJourney for example). Hint: There is only one factor to consider - anyone want to guess what it is? ;-)

In short, get the book and read it, it's only 200 big print pages and won't put you to sleep. Five out of five stars.

Buy this book at
chapters.indigo.ca

Book Review: Buying Time by Daryl Diamond

The "buying time" title refers to spending more money early in retirement to have fun and not end up with a big pile of money kept aside for fear of running out with regrets for all the things that never got done in retirement. The subtitle of this book describes better what it is about: "Trading your savings for income and lifestyle in your prime retirement years". The author is a professional retirement planner with his own website.

This book has great value in that there are few if any books (or info on the web it seems) that take an integrated, holistic view of retirement financial planning to show how the whole process starts with lifestyle priorities that then drive a number of complementary financial components and actions. There are many books or websites from which one can obtain precise and comprehensive information and guidance on individual elements such as RRSPs/RRIFs, insurance or annuities but none that put it all together. The book covers all the acronyms and keywords at various degrees of depth: RRSP, locked-in RRSP, RRIF, LIF, LRIF, CPP, OAS, pensions, insurance, annuities, probate, wills. estates, trusts, power of attorney, capital gains, dividends, interest, bonds, equities.

I found very useful Diamond's discussion of the critical lifestyle priorities, namely providing sufficient income throughout retirement (i.e. making sure not to run out money), especially considering major health care requirements for critical illness and long term care, and whatever desire there is to pass along wealth to family or friends (i.e. not the taxman). It was also very helpful to read the explanations of insurance and annuities, something I have not yet spent much time learning the ins and outs of.

The book's stated objective to provide introductory, conceptual level treatment is also, for the DIY person, a major limitation. Diamond's constant refrain is: "to work out an actual detailed plan, go see a financial planner". Is it really beyond the capabilities of an interested, reasonably intelligent person who takes the trouble to buy and read such a book, to go ahead on his/her own?

The other important caveat is that the book needs a major quality improvement overhaul and significant updates. Diamond may be a good financial planner but he needs the services of a good editor to improve grammar, sentence construction, explanations, organization/story line, labeling and such. Many times I found myself saying to myself that something was incorrect, only to think about it and figure out that it was just the awkward explanation. The update is needed for important changes that have occurred since the 2003 publication date: new tax rates for dividends, tax brackets, foreign content rules for registered accounts, RRSP maturity (in the brand new federal government budget) and the introduction of variable payout annuities, which are not mentioned at all (and which annuity authority Moshe Milevsky termed a development which has "... the potential to revolutionize retirement financing in Canada." in his paper How to Completely Avoid Outliving Your Money (about which I wrote a post a few weeks ago).

A pet peeve of mine is the short shrift he gives to Exchange Traded Funds, exactly 11 lines of text, while the whole body of his discussion assumes the use of mutual funds for equity holdings.

Among the interesting but puzzling observations Diamond makes is that the first ten years of retirement are the best ones. Now it makes sense that declining health will limit activities as one gets older. But what if I decide to retire in my mid 50s? Does it mean I will be worse off after 65 compared to someone who retires at 65 and begins to enjoy his ten best years? And in financial terms, will I need less from 65 on than someone who starts his retirement at 65?

It would be very beneficial for the updated revise edition to include four or five annotated case studies of a complete financial plan. Certain themes and situations must arise often enough to be relevant to a large portion of the public. With all his experience, Diamond would surely be able to identify them.

In sum, this is a useful but by no means definitive book on the subject of personal financial management in retirement.

Lessons from an Expert on Annuities

Moshe Milevsky is one of leading experts, if not the leading expert, on retirement finances and annuities. A professor in Finance at York University, he has written a number of consumer advice books and many research articles. He also heads the non-profit, public-service Individual Finance and Insurance Decisions Centre.

I have just finished reading his paper on variable payout annuities, charmingly titled How to Avoid Completely Outliving Your Money, and would highly recommend this very readable paper to all those who like me are preparing to transition from the financial accumulation phase to the consumption phase, aka retirement.

Some of the bullet points of note in this paper:

• the value of annuities stems from the dispersal of the financial assets of the deceased amongst the survivors (but don't worry, or make nasty plans to bump off other annuitants, your benefits don't go up or down if people die sooner than expected ;-)
  
• the longer you wait to buy an annuity, the more you will get per month
• people who purchase annuities live longer than the population average; no, buying an annuity doesn't cause you to live longer, it's just those who do purchase them are healthier and wealthier than average and these people do have a tendency to live longer (PS insurance companies know this and price it in)
  
• fixed payout annuities are very vulnerable to inflation, just like bonds; even at 2% annual inflation, there would be a 1/3 loss in purchasing power after 20 years; at 4% inflation it's down by more than half; the following words, written in 2002, are still true today "in today’s close-to-zero inflation environment, surprises can only be in one direction"; of course, insurance companies do offer fully or partially inflation-indexed annuities.
• annuity quotes vary considerably among financial institutions so it is important to shop around
  
• the greater your estate creation of bequest motives, the lesser should be your interest in annuities
  
• with variable payout annuities the optimal age to annuitize is much earlier - about ten years; Milevsky shows one scenario in which the optimum age to buy an annuity for a single woman is 80 years old for a fixed annuity but 70 years old for a variable annuity; for a single man the same fixed vs variable annuity optimum is 70 years old vs 60. Milevsky points out these ages would change for different individuals
  
• variable payout annuities enable one to construct an underlying portfolio of stocks and bonds that funds part of the annuity payment; this better matches financial theory that states one should be diversified between these asset classes and not just dependent on fixed rate / bond-type investments as is the case for a fixed annuity.
• variable payout annuities also allow one to shift the payout proportion to either earlier or later years in retirement e.g. this can suit those who anticipate they will be more active and want to spend more early in their retirement and to tail off later on ... in fact, don't the round-the-world tours tend to diminish once people hit their 80s?
• the greater the emphasis on consumption versus bequest motives, the greater the role of payout annuities in the optimal retirement portfolio

The IFID website has many other research and popular press articles on annuities. More to relish reading!

Online Sources - Mortgage, Annuity, Retirement

Just discovered a couple of interesting websites that may useful to others:
- https://www.cannex.com/canada/english/ in reality oriented to institutions and professionals but it has some free, constantly updated tables for mortgages, annuities, bank deposit accounts, RRIFs, GICs
- http://www.ifid.ca/ the Individual Finance and Decisions Center supports research into quantitative wealth and risk management for individuals, especially retirement topics, annuities and the like; much of the material is technical/mathematical but it has reprints from general press articles based on the research; one paper titled Can Buckets Bail-Out a Poor Sequence of Investment Returns? under the Personal Finance Articles compares the results for a retiree whose portfolio is invested in a balanced fund vs another who holds a combination of cash and equities, but they use different withdrawal strategies.
- http://www.soa.org/ the Society of Actuaries website has a free downloadable software package at http://www.soa.org/ccm/content/areas-of-practice/retirement-pension/research/retirement-probability-analyzer-software/

that allows you to estimate whether you will run out money in retirement using various assumptions about age of death, interest rates, investment in annuities vs stocks, bonds