Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

General discussions about equity high-yield income strategies
OLTB
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Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby OLTB » December 7th, 2016, 9:59 am

This is a follow on to the thread on the HYP Practical Board from thebarns that raised a good deal of discussion and got me thinking.

Of course it is a replacement, but so are many other places to put your money. I suppose the correct question would be, 'is a HYP equivalent (tempted to say my bold, but quiver at the prospect of stepping on the great G's toes) to an annuity' and this is where I think the answer is, 'No'. I think pyad's original statements have always said that it was an alternative option, rather than a replacement and this is where some (and I include myself here) need to take heed.

This leads me on to a second point, more to do with the subject heading - does a HYP need time to 'mature' in order to become more 'annuity-ish'?

I am in the building phase and have about 15 years or so I should think before I need to take any income so will be re-investing dividends. I will, during this time, diversify away from a HYP-only approach and look for an IT income portfolio to be built up as well. This is only because I wish to diversify as I am a firm believer this is the most prudent approach. My plan is for my HYP to be used to pay for the 'fun' things in retirement that myself and Mrs OLTB will want to do whilst we have good health, but it might also become a stable income source for other expenses as well. The point I am trying to make is that the next 15 years will (hopefully) give me clarity and the very important practical experience of how the HYP works and how best to structure the HYP - in it's broadest sense - to ensure that the various elements deliver what I hope they will do.

For me, it would be more disconcerting to arrive at retirement being used to only say a 'balanced fund' within a group pension structure, and then be faced with choosing a basket of well thought out individual HYP shares and wait for the income to roll in without knowing the potential 'surprises' that could be in store. A period of time to get used to the mechanics of a HYP, experience various ups/downs/cutters/specials/corporate actions etc. will (I hope) give me the experience necessary when in retirement to think, 'oh, ok, this is similar to when (HSBC) took this action back in 2018, this is what happened so the most appropriate response is...'

Perhaps the readers of these boards will not be in the above situation (otherwise why would they be in a Balanced fund within a GPPP!) but then again, there may be readers who don't post who do have a HYP in mind for when they retire.

Personally, I am very happy with my HYP constructed so far (constructed using pyad's recommendations, but I take responsibility for following his suggestions) and can see how, now that the dividends are trickling in, it should work. The next 15 years or so's experience - as mentioned above - will though I think be more valuable and enable me to set up a system that works for me.

Does that sound a ramble? I hope not, just an observation from someone very new to this HYP approach.

All the best, OLTB.

1nv35t
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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby 1nv35t » December 7th, 2016, 10:12 am

An annuity provides more of a guaranteed level of income for life, but nothing left for heirs. Stocks bought at the wrong time can see significant declines in both capital value and income, can provide a reasonable income and leave funds available for heirs.

https://s17.postimg.org/yk8fc668v/uk_real.jpg

Stocks have done well as interest rates have declined (price and yields are inversely correlated). Going forward from a low yields/interest rates (high prices) the prospects are low that post 1980 to present performance will be sustained.

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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby FredBloggs » December 7th, 2016, 10:14 am

i'd think that with 15 years to practice the art of HYPing, you stand every chance of success with what you're doing. Good luck with it.

OLTB
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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby OLTB » December 7th, 2016, 10:19 am

1nv35t wrote:An annuity provides more of a guaranteed level of income for life, but nothing left for heirs. Stocks bought at the wrong time can see significant declines in both capital value and income, can provide a reasonable income and leave funds available for heirs.


I appreciate the above statement, but shouldn't the priority always be about my financial wellbeing in retirement above any potential legacy to offspring? Also, I think that some annuity companies have bought in 'guarantees' that can go up to 30 years to try and attract those who wish to leave a legacy.

Cheers, OLTB.

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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby Gengulphus » December 7th, 2016, 11:21 am

OLTB wrote:
1nv35t wrote:An annuity provides more of a guaranteed level of income for life, but nothing left for heirs. Stocks bought at the wrong time can see significant declines in both capital value and income, can provide a reasonable income and leave funds available for heirs.


I appreciate the above statement, but shouldn't the priority always be about my financial wellbeing in retirement above any potential legacy to offspring? Also, I think that some annuity companies have bought in 'guarantees' that can go up to 30 years to try and attract those who wish to leave a legacy.


Indeed, but all people here can do is tell you the pros and cons of the various options. Working out which of those pros and cons matter to you (and how much they matter) with your particular financial circumstances and preferences is a job for someone who knows those circumstances and preference very well - which basically means you or a financial adviser you use.

For example, for you your own financial wellbeing may be more important than your offspring's. For someone who has already provided adequately for their own financial wellbeing, with a good margin of safety against unforeseen events, it might be the opposite way around.

Gengulphus

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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby tjh290633 » December 7th, 2016, 11:28 am

Maybe "Replacement" should be "Alternative"?

This leads me on to a second point, more to do with the subject heading - does a HYP need time to 'mature' in order to become more 'annuity-ish'?


I think that the answer to that is, no it doesn't.

My experience is that my HYP has comprehensively beaten an LPI annuity and one that rises by a fixed precentage annually. Difficult to prove dogmatically, but using my unitised model I believe so. Not every year, though.

TJH

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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby Dod1010 » December 7th, 2016, 11:47 am

OLTB wrote:
This leads me on to a second point, more to do with the subject heading - does a HYP need time to 'mature' in order to become more 'annuity-ish'?.


In a sense it does but I think mostly in the sense that it will take a year/18 months for the full effect/income to be seen. I think the other 'maturing' aspect is that you need time to get to know the characteristics of your shares and the financial regime you have decided to adopt. You may also need time to understand that a HYP probably works best with a conservative frame of mind and not going for the 'flavour of the month', nor the highest yield compatible with.......well you know the rest about safety factors.

It is never in my opinion equivalent to an annuity even in the income producing sense because income trickles in in some months and is more like a deluge in other months, and there is no guarantee that this will repeat itself the following year. You therefore need a fairly disciplined mind set for it to work properly.

If you like to see a steady income arriving in your bank account each month you need a buffer to compensate for the rather barren months (in my case October and December are fairly barren) when your requirement for income is more than that arriving in your dividend collection account.

An annuity solves that for you by providing a guaranteed income monthly (and usually an uplift in that income annually based on RPI or some such measure) You of course give up your capital in return for this guarantee and the potential for an increase in capital values in addition to the dividend income. I always think that annuities are fine in some situations but definitely not in others. Most of us on these forums are fairly numerate I expect and although that does not necessarily make us good investors I would suggest that it gives us a head start.

Dod

OLTB
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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby OLTB » December 7th, 2016, 11:54 am

tjh290633 wrote:My experience is that my HYP has comprehensively beaten an LPI annuity and one that rises by a fixed precentage annually. Difficult to prove dogmatically, but using my unitised model I believe so. Not every year, though.

TJH


Thanks TJH - that's an encouraging statement.

Is the HYP something that you built at retirement, or was it formed prior to retirement over a number of years? If so, did that practical experience of running the HYP prior to retirement and finding out how it works; going through the various 'bumps in the road' along the way; harden your resolve and clarify that this was the way to go? That's what I was trying to establish in my 'maturity' comment - perhaps I should have exchanged the word maturity for experience...

Best, OLTB.

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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby 1nv35t » December 7th, 2016, 12:04 pm

Obvious, but worth highlighting. You don't have to fully commit to one or the other (annuity or HYP) and can do both (50/50 perhaps). 50/50 tends to be a reasonable choice when making a decision as you'll neither be fully right or fully wrong.

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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby kempiejon » December 7th, 2016, 12:57 pm

I think it's possible that those that bought an all in HYP a la pyad as an annuity alternative have nothing more to say or do, probably hardly frequented or at least contributed to the TMF boards and similarly don't need to waste their days over here chatting about triming, top ups or weightings, diversification or minimum number of picks.

I'm building my HYP and have been on it for ten years or so; that has given me confidence to continue the strategy as I see the income amounts growing month on month and year on year as I add new funds. The IRR is acceptable, However I have no idea if I wouldn't have been better with international ITs or a growth portfolio or any other version. I also have a few ITs and ETFs for specific coverage, I run a trading portfolio it scratches any trading itch. It's a small portion of my total wealth, fewer holdings and less attention or time directed to it. Over the years the HYP beats the trading strategy but its had big ups and downs, the first couple of year trading was winning hands down, recently I've hardly bothered with any new picks.

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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby dspp » December 7th, 2016, 1:54 pm

1nv35t wrote:Obvious, but worth highlighting. You don't have to fully commit to one or the other (annuity or HYP) and can do both (50/50 perhaps). 50/50 tends to be a reasonable choice when making a decision as you'll neither be fully right or fully wrong.


Something that may also be worth pointing out is that if you buy an annuity you have very little upside and almost no way back. The only way to get upside is to outlive the actuarial projections for your life expectancy. If you decide you want to sell an annuity then it tends to be heavily discounted if it is legal (depends on your country) and in the UK it isn't going to be legal https://www.pensionwise.gov.uk/selling-your-annuity. So pretty much you are fully locked in once you go down the annuity route. But on the plus side once you've done it it is hard to fritter it away through mistakes, i.e. you are protected from yourself.

In contrast if you build a portfolio - whether HYP or otherwise - then you can make course corrections, including frittering it away. You can even buy an annuity later, or not, or whatever.

FWIW I look after two portfolios that were mostly, but not entirely, bought in one fell swoop and are per general HYP approaches. I have reported on progress twice now (see TMF) and third one is due next April. I compare these with some Vanguard trackers I am also accumulating as I have discussed in various of my posts. hariseldon posts a lot about how best to optimise trackers etc, as do others of course.

regards, dspp

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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby Raptor » December 7th, 2016, 2:10 pm

Funnily enough, when I started working on my HYP, which is about 12 years, the idea of replacing an annuity did not really fit in. One reason for this was already benefiting from a company pension (in the old days taking at 50 years old), in fact used the tax free money part of £15K to finance my first 15 purchases) and had 4 other separate pots with various suppliers. I probably should have been thinking about it but had my house almost mortgage free and worth a good amount. I think I already had it in mind to start actively managing the pension pots at some point and had St James Wealth management take the pots and build them for me. It was only when the "rules" on drawdown came about that I decided to take control of everything personally and opened a SIPP with Hargreaves, that consolidated the St James money and another couple of pots that I had built up in the interim. I like the idea of taking income and still having the capital.

Mind you at the time of opening the SIPP I did decide to have both a HYP to play with and some income IT's to balance this.

Raptor.

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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby OLTB » December 7th, 2016, 2:31 pm

Dod1010 wrote:
If you like to see a steady income arriving in your bank account each month you need a buffer to compensate for the rather barren months (in my case October and December are fairly barren) when your requirement for income is more than that arriving in your dividend collection account.

Dod


That's a great point Dod and I think that I'm able to drip feed out an amount of income from my SIPP cash pot held with HL on a regular (monthly) basis. If I therefore attain my income target from my HYP when I get to retirement, I would hope to structure it so that I have 12 months (perhaps 18 months to be on the safe side) of 'income' held in my cash pot, drip this out monthly and hope that this is topped up throughout the year by dividends as replenishment.

Cheers, OLTB.

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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby kempiejon » December 7th, 2016, 2:47 pm

OLTB wrote: If I therefore attain my income target from my HYP when I get to retirement, I would hope to structure it so that I have 12 months (perhaps 18 months to be on the safe side) of 'income' held in my cash pot, drip this out monthly and hope that this is topped up throughout the year by dividends as replenishment.

Cheers, OLTB.


I had thought of doing a similar thing so I'm keen to hear others ideas. I used to think I liked the idea of 18 months of cash to cover lumpy dividend payments but also to smooth out, any downturns in total dividend income.
Currently I think I should be able to manage peaks and troughs of income with a few months worth of income at the most and cheap interest free credit cards and overdrafts if they still exist. A cash buffer being less important to smooth monthly amounts but very important to maintain inflation proofed income when the portfolio income takes a hit. 18 months means I could afford a 50% drop in income for a couple of years before needing to switch to beans and selling the wife. If one can afford it only taking say 90% of expected annual income can help build these pots up to reinvestable levels in sunny weather. Unfortunately I doubt there'll be too much slack between my income and my spending, certainly in the beginning of my using the fund for income.

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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby will89 » December 7th, 2016, 4:11 pm

I think the question really comes down to whether you are purely viewing your HYP as a dividend-providing income stream, or whether you're looking at the capital value (whether or not you deem this to be important).

I've been building an HYP for a couple of years, which was front-loaded with the purchase of about a dozen stocks over a very short period. Since then, the stocks i have topped up or added have done better, but I'm not surprised, and they have only 'done better' because their capital values have increased. I have been able to pick up things like RIO and HSBA over the last 12 months at depressed prices and seen capital growth, but surely for HYP this just aids my vanity?

All the original shares i picked up are still giving me the dividend i bought them for because none have yet cut, and are hopefully going to increase these payouts over the coming years. So yes, It can replace an annuity from a purely income PoV because anyone can see the yield they are buying a stock at (precluding any future cuts), but from a more holistic standpoint it takes time to create a balanced portfolio that has the benefits of some aging and 'picking up bargains' over time.

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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby tjh290633 » December 7th, 2016, 4:58 pm

OLTB wrote:Is the HYP something that you built at retirement, or was it formed prior to retirement over a number of years? If so, did that practical experience of running the HYP prior to retirement and finding out how it works; going through the various 'bumps in the road' along the way; harden your resolve and clarify that this was the way to go? That's what I was trying to establish in my 'maturity' comment - perhaps I should have exchanged the word maturity for experience...


No, it started 11 years prior to retirement, initially over 4 years as a PEP, then contributions in a further 2 tax years before ISAs were introduced. The ISA contributions for 4 years, an old PEP transfered in 3 years later and then a gap of 9 years before any more cash was injected. Cash has been withdraw in 7 years of the last 9. The 45% slump in income came in 2009-10, after wich it was gradually increased until the former level was reached in 2012-13 and is now 42% above the peak of 2008-9.* As you will appreciate, I didn't need to start withdrawing until 2007-8 so there was quite a lot of dividend reinvestment. That is why I prefer to use my unitised model, rather than talk in terms of absolute income levels. The income unit and RPI data are:



Sorry it's not quite as tidy as I would wish. My first attempt at a table. If you compare dividend/unit and RPI, you will see that, even in 2009-10, the dividend per unit was still almost twice that of the RPI on the same basis.

*These data differ from my commemnts above because these are unitised, whereas above I was talking absolute cash.

TJH

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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby Breelander » December 7th, 2016, 5:09 pm

What income could each produce? For an HYP the Ftse All Share index currently has a yield of 3.64% so a return of 4.5% should be achievable with an HYP (my HYP currently yields 4.7%). On £100,000 that would be £4,500. That should increase as time goes on, but no guarantees.

The highest initial income from an annuity would be for a single person at a flat rate for life with no guarantees. The lowest would be for a couple at 3% escalation + 50% Joint Life. The rate also goes down the younger you are when you start. Currently a single 65 year old in central London should expect £4,925 at a flat rate or £3,213 at an escalating rate. A couple would get an escalating rate of £3,148 at 65. http://www.sharingpensions.co.uk/annuit ... .htm#text5

OLTB
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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby OLTB » December 7th, 2016, 5:22 pm

tjh290633 wrote: The income unit and RPI data are:



Wow - thanks TJH, I'm not too sure I fully understand what unitising a set of numbers does, but from what I can see, it means that the historical dividend income has increased by 736.53% over the 29 year history (an average annual increase of 25.40% - if you can average a unitised increase??) compared to an RPI rebase of 156.78% (5.40% average over the same period). As your chart shows, there have been some pretty wild swings from one year to the next, but holding firm has resulted in a superb outperformance against RPI.

If correct - and I'm hopeful that someone will correct me if I'm not as I'm here to learn - that is a compelling argument.

Cheers, OLTB.

OLTB
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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby OLTB » December 7th, 2016, 5:40 pm

Breelander wrote:What income could each produce? £3,213 at an escalating rate.


Thanks for that useful info Bree - taking that stated level in the quote above, if I assume that the increase in annuity income is at the BofE target inflation rate of 2%, then compounding this up, it would take 18 years to exceed the current (not guaranteed) level of income (£4,500) from the HYP. This is without the assumption that the HYP income will increase over time - and just look at the experience of TJH in the table above - so for me, it's a no-brainer.

Cheers, OLTB.

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Re: Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?

Postby tjh290633 » December 7th, 2016, 6:27 pm

OLTB wrote:Wow - thanks TJH, I'm not too sure I fully understand what unitising a set of numbers does, but from what I can see, it means that the historical dividend income has increased by 736.53% over the 29 year history (an average annual increase of 25.40% - if you can average a unitised increase??) compared to an RPI rebase of 156.78% (5.40% average over the same period). As your chart shows, there have been some pretty wild swings from one year to the next, but holding firm has resulted in a superb outperformance against RPI.

If correct - and I'm hopeful that someone will correct me if I'm not as I'm here to learn - that is a compelling argument.

Cheers, OLTB.


OLTB, unitisation is relatively simple. If you use accumulation units, where all dividends are rolled up in the unit price, then all you have to do is to start off with "n" units priced at £1, where "n" is the amount of subscription you have made. Subsequent injections of capital buy more units at the then going price. Withdrawals of cash are made by "selling" units to the value of the withdrawal.

For an income unit model, the same applies, except that dividends received buy more units at the going price, and cash withdrawals are taken from accumulated cash and/or unit sales, as needed.

I normally work on a monthly basis, to save having to do frequent transactions in a month when a lot of dividends roll in. Buying and selling units is just a bookkeeping exercise for you.

When looking at the dividend per unit you must bear in mind that more units will have been bought each month from the dividends received.

TJH


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