The first problem all savers must contend with is inflation – and although the latest data shows a small drop in February, CPI still far outstrips the average rate one can get on a bank account. In 2017 this was just 1 per cent, and although savings rates have risen even the most generous offers that allow you to save meaningful sums are still below the current CPI rate of 2.7 per cent.
It remains to be seen whether February’s CPI drop was temporary, and whether inflation resumes its upward march. But herein lies another risk, this time for those choosing to buy annuities to fund retirement. Just as savings rates are slowly rising, so annuity rates are starting to look a little more attractive, and despite pension freedoms many are still choosing the security of an annuity over alternatives. Yet that security could start to look more like a trap if inflation roars back to life – and index-linked annuities are expensive.
The alternative, drawdown, is not without its risks, either. A decade of low interest rates has given asset prices a pronounced boost, whether it be stock markets, bonds or house prices. This may mean that if you are in the early stages of retirement your pot may look rather nice. But if normalising rates prompt a correction in asset prices, the calculations about how long your pot may last and how much income you can draw may need reassessing. The effects on any correction may be all the more pronounced if you have moved up the risk scale – or down the liquidity scale – to turn your assets into a meaningful income stream.
Even assets you think are safe may not be. Take the furore over Aviva’s planned cancellation of its ‘irredeemable’ preference shares, which many private investors had bought in the belief that they could rely on the income they offered in perpetuity. It seems that under company law that Aviva is free to follow this course of action, and investors can only hope that the pressure being applied means the insurer will do the honourable thing and pay the market value before the proposed cancellation was announced, even if demand for the high coupon had pushed the market price to eye-watering levels. Whatever happens, the Aviva mess raises an important issue that we would all be mindful to consider – that returns rarely, if ever, come without risks, and that we should always be very careful to understand what we are buying. Face value is not always what it seems.
