4 ms·

I sympathize with the general direction of the criticism ("defined benefits pensions are much, much more valuable -- and expensive -- than people typically give

by patio11 12y ago

I sympathize with the general direction of the criticism ("defined benefits pensions are much, much more valuable -- and expensive -- than people typically give them credit for"), but $2 million is strictly superior to a $80k annuity, even if one's assumption is 4% annualized post-inflation returns or, more pessimistically, a 4% safe draw-down rate. Cash doesn't expire when you expire, pensions (mostly) do. The fair cash value of the pension is closer to $1 million. (Please accept this as a handwavy approximation as I'm on a train -- you can probably find any number of calculators on the Internet which would give you a more exact calculation.)

anifow 12y ago
Yes, the author is pretty off-the-mark and I would say misleading. Here are some scenarios worked out with www.numbercanvas.com Early Retirement, Average Lifespan: $1 million Early Retirement, Long Lifespan: $1.5 million Average Retirement, Long Lifespan: $1.25 million Average Retirement, Average Lifespan: $650,000 Early Retirement, Short Lifespan: $480,000 http://pastebin.com/QU5dnCe8 http://pastebin.com/QU5dnCe8
- Ntrails 12y ago
  Expected joint life at early retirement (which is what the article prices) in the US is ~35 years assuming spouse of similar age to the retiree (looking at http://www.irs.gov/pub/irs-pdf/p590.pdf http://www.irs.gov/pub/irs-pdf/p590.pdf from a quick google). The 4% was not defined as real return, maybe it was supposed to be - but otherwise you need to account for the inflation linkage of the annuity. With that basis you get $1.4m with no inflation and almost exactly $2m with an inflation assumption of 2%.
Ntrails 12y ago
I am thrilled that you're able to design a risk free portfolio returning inflation + 4% annually. Please share this with the rest of the world, that we may all have better annuities... People massively undervalue pensions - especially those with additional benefits such as spousal, early retirement, minimum payment periods etc. The only valid valuation for any asset remains what it would cost in the market, and as such $2m is the correct value. It is entirely possible you'd rather have the cash, but it's not objectively superior.
- patio11 12y ago
  Let me try rewording my explanation: an annuity which pays $80k from the day you retire until you and/or your wife die is a product which you can buy from many providers (typically insurance companies, because they're going to make this bet in parallel with enough people such that variations in length of the annuity get smoothed out by actuarial reality). This product has a negotiable price tag. You will find quotes for this product to be approximately $1 million, not $2 million. [Edit: P.S. Most HN users should not buy annuities. Ask me, or a fee-only financial adviser, later if you want to know why, but the short version is "They optimize for emotions but you have the compelling alternative to optimize using math."]
  - Ntrails 12y ago
    I can't really comment on the US annuity prices, as I am based in the UK - but I find it unlikely that an $80k annuity at 55 is purchasable for a million dollars given where yields are atm. I mean cripes, right now you would be lucky to find a 5k inflation linked joint life-annuity with 100k retiring at 65. The annuity market is in no way optimised for emotion. It is priced based on capital retirements, mortality numbers, longevity trends, investment returns, bond yields, and a bunch of other things - before you even get to the insurer then trying to be competitive in the market. You are buying insurance. Same as medical insurance, plenty of people get less than they pay in - that's the whole point. Risk pooling means redistribution of wealth, always. If you want to run the numbers on drawdown and argue it's better than annuitisation, feel free. Just make sure you price in your 40% drop in equities scenario.
    - declan 12y ago
      Ahem! This is really an empirical question with an easy Google search answer. :) If you go to http://www.immediateannuities.com/ http://www.immediateannuities.com/ and say you're a 50-year old man (the age at which at least in some CA cities a police/fire municipal worker can retire with 90% pension), with a 40-year old wife, and you invest $2 million, you'll get an immediate income annuity of $88,560 a year. That's in the ballpark of what the Forbes article was saying ($80,000 a year). The numbers don't change that much if the age of the wife approaches 50. So <ntrails> has the better of the argument, I think: There's no evidence you can buy an $80K annuity for $1M. And I suspect it would cost even more if it were indexed for inflation, as many municipal pension benefits are.
declan 12y ago
I agree with most of what you say, except for three points. First, in some California cities, police/fire municipal workers can retire at age 50 with a 90% pension. If the average life expectancy in the United States is 79 years, and it is, that could push the effective value up over $2 million. Second, the surviving spouse can get the pension benefits, which again raises the effective value. Cite: http://online.wsj.com/news/articles/SB10001424052748703625304575115551578762006 http://online.wsj.com/news/articles/SB1000142405274870362530... Third, pension benefits are often indexed for inflation. Clearly the pension-maximizing approach is for a 50-year retiree to marry a 20-year old. :)

by patio11 12y ago

anifow 12y ago

Yes, the author is pretty off-the-mark and I would say misleading. Here are some scenarios worked out with www.numbercanvas.com Early Retirement, Average Lifespan: $1 million Early Retirement, Long Lifespan: $1.5 million Average Retirement, Long Lifespan: $1.25 million Average Retirement, Average Lifespan: $650,000 Early Retirement, Short Lifespan: $480,000 http://pastebin.com/QU5dnCe8 http://pastebin.com/QU5dnCe8

Ntrails 12y ago
Expected joint life at early retirement (which is what the article prices) in the US is ~35 years assuming spouse of similar age to the retiree (looking at http://www.irs.gov/pub/irs-pdf/p590.pdf http://www.irs.gov/pub/irs-pdf/p590.pdf from a quick google). The 4% was not defined as real return, maybe it was supposed to be - but otherwise you need to account for the inflation linkage of the annuity. With that basis you get $1.4m with no inflation and almost exactly $2m with an inflation assumption of 2%.

Ntrails 12y ago

I am thrilled that you're able to design a risk free portfolio returning inflation + 4% annually. Please share this with the rest of the world, that we may all have better annuities... People massively undervalue pensions - especially those with additional benefits such as spousal, early retirement, minimum payment periods etc. The only valid valuation for any asset remains what it would cost in the market, and as such $2m is the correct value. It is entirely possible you'd rather have the cash, but it's not objectively superior.

patio11 12y ago
Let me try rewording my explanation: an annuity which pays $80k from the day you retire until you and/or your wife die is a product which you can buy from many providers (typically insurance companies, because they're going to make this bet in parallel with enough people such that variations in length of the annuity get smoothed out by actuarial reality). This product has a negotiable price tag. You will find quotes for this product to be approximately $1 million, not $2 million. [Edit: P.S. Most HN users should not buy annuities. Ask me, or a fee-only financial adviser, later if you want to know why, but the short version is "They optimize for emotions but you have the compelling alternative to optimize using math."]
- Ntrails 12y ago
  I can't really comment on the US annuity prices, as I am based in the UK - but I find it unlikely that an $80k annuity at 55 is purchasable for a million dollars given where yields are atm. I mean cripes, right now you would be lucky to find a 5k inflation linked joint life-annuity with 100k retiring at 65. The annuity market is in no way optimised for emotion. It is priced based on capital retirements, mortality numbers, longevity trends, investment returns, bond yields, and a bunch of other things - before you even get to the insurer then trying to be competitive in the market. You are buying insurance. Same as medical insurance, plenty of people get less than they pay in - that's the whole point. Risk pooling means redistribution of wealth, always. If you want to run the numbers on drawdown and argue it's better than annuitisation, feel free. Just make sure you price in your 40% drop in equities scenario.
  - declan 12y ago
    Ahem! This is really an empirical question with an easy Google search answer. :) If you go to http://www.immediateannuities.com/ http://www.immediateannuities.com/ and say you're a 50-year old man (the age at which at least in some CA cities a police/fire municipal worker can retire with 90% pension), with a 40-year old wife, and you invest $2 million, you'll get an immediate income annuity of $88,560 a year. That's in the ballpark of what the Forbes article was saying ($80,000 a year). The numbers don't change that much if the age of the wife approaches 50. So <ntrails> has the better of the argument, I think: There's no evidence you can buy an $80K annuity for $1M. And I suspect it would cost even more if it were indexed for inflation, as many municipal pension benefits are.

declan 12y ago

I agree with most of what you say, except for three points. First, in some California cities, police/fire municipal workers can retire at age 50 with a 90% pension. If the average life expectancy in the United States is 79 years, and it is, that could push the effective value up over $2 million. Second, the surviving spouse can get the pension benefits, which again raises the effective value. Cite: http://online.wsj.com/news/articles/SB10001424052748703625304575115551578762006 http://online.wsj.com/news/articles/SB1000142405274870362530... Third, pension benefits are often indexed for inflation. Clearly the pension-maximizing approach is for a 50-year retiree to marry a 20-year old. :)