Advisors, be very wary of what you read about annuities, for it may be devoid of any meaning.
That warning comes from Moshe Milevsky, pictured, just back from a visit to England, where he poured through dusty documents in the British National Archives, examining the actuarial assumptions of the life annuities issued by the Chancellor of the Exchequer in the 17th and 18th centuries.
While he saw evidence of mispricing that accrued to the disadvantage of the Royal Treasury, when AdvisorOne caught up with him the subject of discussion was today’s sensationalized characterization of annuities as products of unremitting evil or of unsurpassed virtue.
Back in London’s Globe Theatre, such assessments are typically uttered by “a poor player that struts and frets his hour upon the stage and then is heard no more.”
Too often, according to Macbeth or Milevsky, “it is a tale told by an idiot, full of sound and fury signifying nothing.”
For a little wisdom — make that a lot of wisdom — on understanding retirement income, the York University finance professor and Research magazine contributor cautioned that advisors (and financial journalists even more) should pay particular attention to the first mention of annuities in an article or discussion.
“That opening sentence has got to be clarified before you can have an intelligent conversation about it,” said Milevsky (right), speaking by phone from his office in Toronto.
“Are you talking about a pension that you put money into to get an income out of…or an equity-indexed annuity that functions like a savings account?” he asks, noting there are six or seven types of products that regulators, lawyers and journalists all refer to as annuities but which to economists are all different.
“Imagine if someone came to you asked you, “Do you think ‘funds’ are a good idea?” — the first of many hilarious analogies that emanate from the professor like water flows down Niagara Falls.
What kind of funds — stock funds, bond funds — and what kind of stock fund and whose stock fund, an advisor would respond. “That’s what’s happening,” Milevsky laments.
“It’s like saying all mortgages are bad,” noting the plethora of high-rate, low-rate, floating-rate, teaser-rate products available. “You can’t just condemn an entire industry.”
He notes that the popular financial columnist Jane Bryant Quinn was outspoken in her hostility to “annuities” for years and years until she discovered an annuity product she praised as being good.
“Words matter. Let’s call some pensions and some variable annuities,” Milevsky intones, noting the significant difference between a $200 billion-a-year variable annuity market and a trifling $10 billion in annual sales for income annuities.
To clarify some of the essential distinctions among the different sort of annuities, Milevsky has just published a monograph for the CFA Institute that answers in straightforward question-and-answer format some critical retirement income questions.
That is because even CFAs, despite all their technical financial expertise, don’t understand insurance and the Institute is trying to offer more of a wealth management perspective to CFA designees, Milevsky says.
In one enlightening part of the CFA monograph, Milevsky sorts through the vast scholarly literature that attempts to explain why people should not annuitize: because of high interest rates; high embedded loads and costs; Social Security; even marriage.
He says he’s even seen the argument that if you buy an annuity you will discourage your kids from taking care of you.
“The audience for these arguments are PhDs,” Milevsky cautions, warning that popular press accounts often wildly misinterpret their meaning. Offering another analogy, he says that the medical literature is filled with the notion that exercise is healthy. “Then somebody comes along and says if you have arthritis exercising is very bad for you.”
And then comes a sensation-seeking expert or ignorant journalist to announce: “Exercise is bad for you, you might have arthritis.”
Urging greater sophistication, Milevsky says that yes, there is a huge segment of the population that doesn’t need annuities and we need to understand who is and who is not in that group.
Which brings us to another critical bit of wisdom that Milevsky emphasizes for financial advisors: namely that the diversity of strategies at retirement is magnitudes greater than during the accumulation phase.
“You need to listen very carefully to what your retiring clients’ unique needs are because no portfolio will address the variety of” client goals and balance sheet considerations, he says noting that some portfolios must be tailored to risk aversion, others to liquidity concerns and still others to health conditions.
Milevsky offers his in-laws as an illustration of how basic values shape a client’s portfolio.
“They’re spending much less than they can afford to,” he says, but would view an annuity that would increase opportunities for current consumption as a “waste of money,” since they are determined to pass their wealth on to their children and grandchildren.
“For my in-laws, dying broke is the ultimate failure,” Milevsky says. “To many baby boomers that’s the objective. So how can you have a portfolio appropriate for [both groups] — one is trying to solve intergenerational problems, the other wants to be sure they spend their last dollar the day they die.”
That is why advisors must work to really understand their clients. “You’ve got to listen,” he says, adding some blunt cautions about an advisor’s age.
“A 35-year-old financial advisor will have a very difficult time having a conversation about life goals,” Milevsky says. “At some point it’s hysterical,” he adds, picturing a young planner with a questionnaire asking a retiring client if he’s had his first heart attack already.
“I’m willing to have a 27-year-old surgeon fix my liver, but in financial planning the intergenerational discussion is not going to work,” he says, since an older person will sense the lack of relevant life experience and void of wisdom.
“You have to have made some money and lost it before you can do a really good job. The multitude of issues that come up in retirement you can’t teach in a course,” the business professor says, expressing open skepticism of his colleagues who teach management courses without having hired people, fired them and sweat over meeting payroll.
“I’m not going to go to a doctor who smokes, a beautician who’s ugly and a financial planner without wealth,” he says.
Besides the variety of client situations, Milevsky points out that there are differences in planners.
Offering another characteristic analogy, he says a health seeker taking a walk through the supermarket aisles with a nutritionist is going to get a basket of fruits, vegetables and other healthy items.
But if he took a tour of the market with a second nutritionist — sure, both would leave out the bacon, but there are going to be differences at the checkout.
“At some point the science ends and the art begins. There is no point at which you’re going to get agreement among experts,” Milevsky says, noting that while all advisors might put some stocks and bonds in your portfolios, there will be differences in proportion and in whether to include annuities, long-term care insurance and the like.
A good advisor will tailor the portfolio to his client’s unique needs, but will also make sure that portfolio items are exercised properly. The academic, whose sideline QWeMA Group consulting firm helps institutional clients like Pacific Life, John Hancock and Principal Financial Group help their advisors and clients optimize the quantitative aspects of portfolio decisions, stresses that “if you bought annuity, make sure you use it properly.”
Check out these related stories on AdvisorOne:
- Annuity Puzzle Solved: Don’t Buy Them
- Annuity Anomaly: EIA + GLB > SPIA?
- Milevsky’s VA Shocker: Turn on Your Living Benefit, Now
- Annuities 2020: Will the Future of VAs Look Like Their Past?
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