How to address risks facing retirees

One of the biggest challenges in investing is the transition into retirement. After years of building up your portfolio, it is suddenly time to transition from an accumulator to a spender, selling off assets to pay for your day-to-day expenses. This shift can invoke anxiety for even the most knowledgeable investors. You might worry about spending too much, or too little. You may question whether your portfolio is too aggressive or too conservative, and wonder how short-term market movements will impact the rest of your life. Throw in some inflation and an uncertain economic environment, and a time that is supposed to be a respite from a lifetime of hard work can be fraught with worry. And yet there is a pathway to alleviate much of the risk of retirement, a path that a surprisingly small number of investors take.

Annuities offer a fixed stream of payments to an investor. This stream can be for a fixed period, such as ten or twenty years, or it can be for their lifetime, providing income until death. These payments can also be linked to the Consumer Price Index (CPI), which provides protection against inflation and ensures your purchasing power is not eroded over time. While annuities can be purchased by anyone, they are particularly popular for investors in or approaching retirement. The guaranteed payment, especially with a lifetime annuity, offers a profound sense of peace of mind, replacing the anxiety of an uncertain future with a reliable and predictable income stream.

The regular payments you receive from an annuity depend on factors such as your purchase price, the term of the annuity, the capital value you choose to retain, and the rates offered at the time you invest. The fundamental purpose of an annuity is to give up a lump sum of your capital in exchange for guaranteed income. A common concern is what happens to the capital if you die prematurely. In many cases, a death benefit will be paid out to your beneficiaries. This can be structured as a full refund of the initial premium if you die within a certain period, which some investors consider a form of insurance against premature death.

Annuities are a type of fixed income asset. Unlike equities, their value is not impacted by share market movements, which provides stability during periods of market volatility. They also differ from most other fixed-income instruments because they are not directly impacted by interest rates once the annuity is purchased. This means that retirees don't have to worry about the major concerns of sequencing risk and longevity risk. Annuities are not meant to replace your entire income in retirement but to provide a foundational, reliable income, allowing other assets to take on more risk to drive returns.

It is important to consider that annuities are relatively illiquid. Unlike other instruments, you are not able to sell a portion of the investment. While you can typically withdraw the full lump sum up until a certain holding period, after that period, the amount you can withdraw reduces, and eventually, you may no longer be able to access your capital. At that point, you will continue to receive your guaranteed income for the rest of your life.

Annuity issuance is supervised by the Australian Prudential Regulatory Authority (APRA). This body ensures that the issuer holds enough cash to be able to make all of the payments required by their annuities. The requirements for an annuity provider are stronger than for corporate bondholders, as your annuity payments must be made before bondholders or shareholders get paid. This provides a strong level of confidence and security in the product.

Studies have found that common reasons for investors not purchasing annuities include the loss of liquidity and the desire to leave a bequest to heirs. Some retirees are willing to take on more risk for the potential of higher returns. Additionally, some prefer to spend more in the early years of retirement on things like travel and experiences, and they don't value a steady income stream that pays the same amount across the decades. They want the flexibility to draw down funds at a pace that suits them. Another reason is that many Australians already have a guaranteed income source through the aged pension and may feel they don’t need two sources of guaranteed income. They would prefer to put their money to work in a riskier asset class.

Source: Morningstar Australia. How to address risks facing retirees by Shani Jayamanne, 24 July 2025.

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