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Variable payout annuities and dynamic portfolio choice in retirement

Published online by Cambridge University Press:  27 January 2009

WOLFRAM J. HORNEFF ,
RAIMOND H. MAURER ,
OLIVIA S. MITCHELL  and
MICHAEL Z. STAMOS
WOLFRAM J. HORNEFF
Affiliation:
Finance Department, Goethe University Frankfurt
RAIMOND H. MAURER
Affiliation:
Finance Department, Goethe University Frankfurt
OLIVIA S. MITCHELL
Affiliation:
The Wharton School, University of Pennsylvania
MICHAEL Z. STAMOS
Affiliation:
Finance Department, Goethe University Frankfurt
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Abstract

Many retirees hope to continue earning capital market rewards on their saving while avoiding outliving their funds during retirement. We model a dynamic utility maximizing investor who seeks to benefit from holding both equity and longevity insurance. She is free to adjust her portfolio allocation of her financial wealth as well as of the annuity over time, and she can purchase variable payout annuities any time and incrementally. In this setting, we show that the retiree will not fully annuitize even without bequests; rather, she will combine variable annuities with withdrawals from her liquid financial wealth so as to match her desired consumption profile. Optimal stock exposures decrease over time, both within the variable annuity and the withdrawal plan. Welfare gains from this strategy can amount to 40% of financial wealth, depending on risk parameters and other resources; additionally, many retirees will do almost as well as the fully optimized outcome if they hold variable annuities invested 60/40 in stocks/bonds.

Type
Articles
Information
Journal of Pension Economics & Finance , Volume 9 , Issue 2 , April 2010 , pp. 163 - 183
Copyright
Copyright © Cambridge University Press 2009

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