Reaching new heights for fixed term annuities

The future is looking bright for fixed-term annuities as Helen Morrissey discovered at a round table event on the at-retirement market

Today's annuity market is very different from what is was five years ago. We have seen massive growth in the enhanced annuity market and a great deal of development in product areas, such as the investment-linked annuity.

But in a recent Retirement Planner poll hosted on IFAOnline.co.uk, we asked advisers to tell us where they see growth coming from in the next five years. The majority (65%) said they expected the fixed-term annuity market to deliver major growth in years to come.

This is high praise indeed for a market that barely existed six years ago. Living Time was the most high profile participant for several years but over recent years we have seen a surge in activity with companies such as LV=, Aviva, Just Retirement and MetLife entering the market.

We've also seen these products undergo design innovation. Aviva's product offers the potential of investment upside while Just Retirement was the first to offer a fixed-term annuity allowing the client to move into an enhanced annuity should their circumstances change.

A market on the up
So, what are the reasons behind this rapid development? At a recent adviser round table hosted by Retirement Solutions, Living Time founder Kim Lerche-Thomsen said that after a difficult start, growth in the market has been aided by issues such as current investment volatility.

"In the early days, it was like inventing the television three years before the BBC started making programmes, so it was very difficult to start with.

"However, the circumstances today are very different and as we have a more mature market, advisers have more product choice. We feel the fixed-term annuity is a good product for those concerned about what may happen in the future."

He continued: "It is a guaranteed product and in this market, people are more interested in the likelihood of having their fund returned to them, never mind the fund's rate of investment return.

There are many factors that would contribute to a growth in the market. Firstly, increasing longevity means it is unlikely to be in a clients' best interests to tie themselves into a conventional annuity at 60 or 65 as they will be unable to change to a more suitable product should their circumstances change.

Secondly, we have seen historically low gilt yields, which spells bad news for those looking to annuitise for life right now. Not all clients will want to take on the investment risk associated with income drawdown and so need another option that enables them to delay making the final decision to annuitise.

Fixed-term annuities allow the client to delay taking this decision after which time they can take the remainder of their fund and decide what their best option is.

For instance, many retirees may find they have developed a condition that would enable them to qualify for an enhanced annuity with the corresponding lift in income. There is also the possibility that gilt yields could have improved from today's low levels and so an increased income could be taken.

However, it is also worth pointing out that gilt yields may very well have fallen further over this time. This is a risk all clients need to bear in mind.

Adaptability

This ability to defer taking the final irrevocable decision to annuitise is a major factor behind the interest in fixed-term annuities.

"I think fixed-term annuities play very well to the circumstances we are in," said Peter Carter, product marketing director at Met Life.

"There is a type of client who would ordinarily buy an annuity, but at age 65 today people have a very different idea of what their life will be. There is a real desire to have some kind of guarantee in place while keeping their options open.

"Fixed-term annuities are a strong product for that kind of client and we believe the market will grow rapidly over the next few years."

Steve Lowe, Just Retirement's head of external relations, agrees these products could have an important role to play.

"There are more than 4,500 advisers using fixed-term annuities and we expect this category will become increasingly used by advisers as an alternative to standard conventional annuities.

"However, the reduction in GAD has meant clients are increasingly drawn to longer terms to attain the advantage of the income available from higher yields."

But while it would seem that fixed-term annuities are starting to gain credence among the adviser community, there remain many who are reluctant to look at more middle market products. However, the increased interest from clients means advisers will need to start considering them.

Retirement Solutions managing director David Bell said: "We are retirement specialists and so we've been advising on many third-way options, whereas a lot of other advisers just don't talk about them. It is either annuity or drawdown with these advisers.

"However, we have seen a real increase in the level of knowledge in the queries we receive. They aren't just looking for the best annuity rate. They are asking about products such as fixed-term annuities, as well as investment linked products."

Aston Goodey, MGM Advantage's sales and marketing director, agreed that advisers need help in understanding where these products fit in to their advice process.

"The biggest thing we can do is try and change adviser habits," he said. "People are still buying conventional annuities when it is not in their best interest. The Retail Distribution Review will play well with this as advisers increasingly have to demonstrate their worth and fees.

"The final outcome for a client could still be a conventional annuity, but the adviser will need to demonstrate they have explored other options."

So, while current circumstances mean fixed-term annuities could be a viable option for some, is everyone who should access a fixed-term annuity - or indeed, any other alternative type annuity - actually able to do so? Are people with smaller pots able to utilise these products or are they likely to remain the preserve of those with larger retirement pots?

According to Lerche-Thomsen, those will smaller pots tend to be referred to conventional annuities whereas these are precisely the clients who could benefit most from products offering more flexibility. "Even for those with small pots, that money is valuable to them. Just because it is hard to provide good advice at this level, it doesn't mean it is not important to those people.

"When we had conversations with the FSA about launching our fixed-term annuity, we wanted to launch it at £10,000 as we didn't feel there should be financial exclusions - everyone should be able to make the most of the money they've got."

Big help for small pots
But what can advisers do to open up the market for those customers with small pots? Many believe advisers will increasingly refer such business to specialists, while others say there is scope for the design of these products to be simplified to the extent they can be offered on a non-advised basis.

"It all depends on the design of the product," said Carter. "While our unit-linked guarantee products are designed for the adviser market and we wouldn't dream of offering those as they stand directly to the client, I think there is room for providers to simplify their products, make them more straightforward so they can be offered on a non-advised basis.

"I think there is potential for our fixed-term annuity to be offered in this way as it is a straightforward product - but only as long as they understand the risks involved."

Matt Trott, head of annuities at LV=, agreed as long as the client fully understands the risks involved.

"You need to understand the risk of things going wrong," he said. "There are risks in purchasing a standard lifetime annuity. What if you have high inflation? What happens if the spouse does die?

"These are risks we are happy to explain to people on a non-advised basis as we feel people understand them. I don't think it is a huge step to the fixed-term annuity as it is still fairly simple."

So it would seem interest in fixed-term annuities will continue to grow over the coming years as clients look for different ways of keeping their options open for as long as possible.

While fixed-term annuities do have a role to play in helping people do this, it is clear more product development is needed if they are to get a real toe-hold in the market.

Right now, these products are really being used only by those with more retirement savings and work will need to be done on simplifying these products so they can become a viable option for those with smaller pot sizes.