bionichamster wrote: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 pick.
A few years ago I made some comparisons with the performance of PYAD's HYP1 demonstartion potfolio and an annuity that could have been purchased at the same time with the same money. I repeated the comparison a couple of times (here's a link to year 11:
http://boards.fool.co.uk/hyp1-benchmark-comparison-12407288.aspx)
As that link probably won't survive much more than another month or so, here's an archived version of the full thread:
http://web.archive.org/web/20170103135311/http://boards.fool.co.uk/hyp1-benchmark-comparison-12407288.aspx?sort=wholeBut I would comment on both this thread's subject question and an early quote from that link:
"
But before we get too pleased shouldn't we compare it with the real benchmark? The product that the HYP was originally conceived as a replacement for?
The Annuity."
A HYP is very clearly
not a plug-in replacement for an annuity, because they have quite different investment characteristics. In particular, the income available from a HYP does not depend on the age of the investor, while that available from an annuity does. And related to that, the HYP leaves the capital accessible - only as an alternative to continuing to get the income, not in addition to it, but that's an alternative that isn't there with an annuity. So basically, an annuity provides an income bonus that depends on the age of the investor when it is bought, while a HYP instead provides flexibility about what the investor can do after it is bought.
In addition, a HYP is a very equity-based investment, while an annuity is generally much more gilts/bonds-based, so they have very different risk vs reward characteristics - and the comparison between the two varies over time. For instance, the link quotes a level annuity rate of £725 per £10k invested (averaged for men and women) at age 60, but the figure I've found in a quick search just now is £444, barely above 60% of £725. But the forecast yield available from a HYP bought now is reasonably close to the 4.8% forecast for HYP1 when it was bought (
http://news.fool.co.uk//news/foolseyeview/2000/fev001113c.htm), and certainly way above 60% of that figure, which would be under a 3% yield.
Furthermore, a HYP requires a certain amount of maintenance effort from its investor - effort that an annuity doesn't require. It's not a huge amount - but for some investors (especially those whose ability to do it themselves has gne or is going) there is a large qualitative difference between requiring zero and non-zero maintenance effort.
So the only sensible answer to the question "
Is an Immediately Purchased HYP really a Replacement for an Immediate Annuity?" is in my view that which is better depends a great deal on all sorts of things about the investor - on their age, how badly they need immediate income, how much they value future flexibility, market conditions when they happen to be facing the investment decision, how much they're willing/able to do to maintain their own investments, etc. And therefore that no, the phrase "annuity replacement" is
not a good description of a HYP: it grossly over-simplifies the comparison, encouraging one-dimensional thinking about the issue.
So why was the HYP "originally conceived as a replacement" for an annuity? The answer is simple: it wasn't! Read the original HYP article
http://news.fool.co.uk//news/foolseyevi ... 01106c.htm and you'll find the alternatives that it actually does mention (with my bold to point them out):
"
Conventional wisdom on this topic from IFAs will tend to propel you in the direction of some kind of insurance company product such as guaranteed income bonds or the like. A lot of literature on the subject of retirement investing for income suggests that, even if you have been saving through equity vehicles of some kind up until now, there should be some switch away from equities just because you have retired.
Advisers make such comments because of the perceived risk of keeping money in shares, it being felt by them that at the age of, say, 60, one should be taking less risk than before with savings. From what I have seen, the great majority of retirement lump sums end up either in insurance company investments, or simply in National Savings and bank and building society deposits."
Now yes, an annuity is an insurance company product, so it is included in that - but if one is looking for what HYPs were originally conceived as replacements for, guaranteed income bonds, National Savings products, bank deposits and building society deposits are all actually mentioned. And they all have much more similar characteristics to HYPs in terms of providing an income that does not depend on the investor's age, retaining access to capital and requiring some maintenance effort. It's still a multi-dimensional issue and I wouldn't regard describing a HYP as a replacement for any of them as a terribly accurate description - but it's a lot closer than regarding it as an "annuity replacement"!
To sum up, the phrase "annuity replacement" seems to me to be a 'sound bite' description of a HYP that has emerged since the original concept rather than being that original concept. And like so many 'sound bites', it's memorable and not totally divorced from reality - but sufficiently so to make it highly misleading!
As for what the original concept
was, it seems clear to me from re-reading that original link that it was that equities could sensibly be used as a reasonably reliable (though not totally risk-free) source of retirement income, and that it was within the abilities of the average retirement investor to do so for themselves rather than needing to employ any sort of fund manager to do it for them.
Finally, I should add that I'm
only trying to avoid what appears to me to be a myth about that original article,
not to say that it was correct on all counts. On the contrary, I think it is flawed in at least two ways: it didn't look at the issue of maintaining the portfolio in the face of corporate activity and weighting imbalances developing, and related to that, its comment that "
no more than about 15 shares are necessary to take strip out the excessive risk of too few shares" misses a significant point: yes, there are academic studies that say that 15
equally-weighted shareholdings are enough to diversify away most such risk, and yes, 15
roughly equally-weighted holdings should do almost as good a job. But 15 very unequally-weighted holdings won't - and in particular, the academic studies should IMHO be taken as implying that holdings which are significantly more than 1/15th of the portfolio
do produce excessive lack-of-diversification risk. HYP1 has had a demonstration of this, in the form of BT's major contribution to its income fall between year 8 and year 9 (about 10% of its total year 8 dividend income disappeared in that one cut alone), and it's at risk of a bigger demonstration should anything nasty happen to BATS...
There are ways those flaws could have been mitigated that wouldn't have involved turning HYP1 into a tinkered HYP. For instance, HYP1 could have had a "maintenance aim", say that no one holding should exceed 10% (*) of either the portfolio's capital value or of its income. That's an
aim, not a requirement, so it doesn't require the portfolio to tinker: it just means that when reinvesting the proceeds of takeovers and other corporate actions, decisions that create or increase a breach of the aim should not be made. Had HYP1 had such an aim and been run in accordance with it, it would still currently be in breach of that aim, as BATS's long run of superior performance would have pushed it well over 10% - but equally, it wouldn't be up at the 25%ish level!
(*) I'd prefer a somewhat lower figure, but 10% is a convenient round number and also means that HYP1 did initially satisfy the aim: its initial highest-yielding share was responsible for just under 10% of its forecast income when it was purchased.
Gengulphus