Many retirees probably wonder how the annuity providers go about pricing their annuities. We therefore though we would enlighten you on how annuity pricing works.
To ensure annuities return a guaranteed income for the rest of the customer’s life, they are mainly backed by low-risk Gilts and Corporate Bonds. Gilts are considered to have no risk while Corporate Bonds tend to create a better return, but carry increased risk as the company issuing the Bond may become insolvent.
Annuity providers must hold reserves for expected defaults of Corporate Bonds. These reserves come from the extra expected yield to be gained by buying the Corporate Bond rather than the Gilt. This is known as the Credit Spread, which is made up of a liquidity obligation and a default obligation. At the moment annuity providers typically reserve 25% – 50% of credit spread for Corporate Bond defaults.
Source: MGM Advantage
Because not all annuity providers price their annuities the same, to ensure you get the best annuity rates you need to use your open market option and shop around on the entire market. The other thing to remember is that not all providers will deal with the general public, there are some that will only deal with an independent financial adviser. So if you really do want the best annuity rates you need to seek independent financial advice.
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