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24 June 2013 last updated
Best annuity rates could rise 8% as gilt yields soar 39 basis points

The 15-year gilt yields reach a high for the year at 3.08% up 39 basis points in three days and now the best annuity rates can rise up to 8% higher after the US Federal Reserve signals the end of stimulus.

Annuity rates are primarily based on the 15-year gilt yields and as a general rule a 39 basis point increase in yields will result in a 3.9% increase in annuity rates at some time by providers.

15-year gilt yields reached an all time low in August last year of 2.02% and on 2 May were as low as 2.15% but have since rebounded to the current high of 3.08% and the last time we were at this level was August 2011.

The stunning turnaround has been due to markets greater confidence in the equity markets and expectation that bond prices will fall in the future. The announcement from the US Federal Reserve that they would bring the $85 billion stimulus programme to an end by mid-2014 has shocked investors resulting in the sudden price fall, to the benefit of yields and possibly higher annuities.

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  As gilt yields soar to 3.08% after investors leave bonds and gilts the best annuity rates are set to rise
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Standard annuities could gain the most

Falling equities have been reducing income for those that remain invested and tracking the FTSE-100 index. Providers of standard annuities have been slow to make improvements to rates and at the start of the month rates were expected to rise by 3.06%.

Gilt yields were at 2.57% and have since increased 51 basis points to 3.08% and taking into account some minor improvements this month leaves a potential for a 8.0% rise. Even looking at the medium term of three months comparing yields with rates we would expect a rise of at least 4.6% and over six months 6.5% rise.

There is less scope for impaired annuity providers to increase rates by these amounts as the providers are making adjustments almost everyday. If is likely that the providers could increase impaired annuity rates by about 3.9%.

If people suffer from a lifestyle medical condition such as high blood pressure, Cholesterol, are a smoker or are overweight they could receive an 18% higher income from an enhanced annuity. For more serious medical conditions such as diabetes, heart conditions or cancer the income can increase incomes by 40% over standard annuities.

What is driving the sudden rise in yields

Only last month investors were in fear of the world economy with the US jobs figures and eurozone crisis returning. Funds were being transferred from risky equity investments to the safe havens of US Treasury Notes, UK government bonds and gilts and German Bunds.

This increased the price and reduced the 15-year gilt yields to 2.15%, just above the all time low of 2.02% reached in August 2012 and yet today they are reaching an 18 month high of 3.08%. For the past few years we have seen an inverse relationship between equities and gilt prices as equities rise the price of gilts fall resulting in higher yields suggesting funds are moving from safe havens to higher risk investments.

At the moment equities are falling and gilt prices are falling suggesting funds are moving away from both equities and gilts. The reason for this is the intention of the US Federal Reserve to stop Quantitative Easing (QE) by July 2014. Equity markets have been fueled by the supply of liquidity with bonds and gilt prices kept artificially high as the process of QE buys bonds and gilts in order to release investor funds into the economy.

By announcing the end of the US stimulus investors can see that both equity markets and gilt prices cannot be supported at current levels and both markets are correcting to lower levels. In practice the US Federal Reserve will not stop the stimulus programme of $85 billion a month until the US economy and unemployment levels improve but for the moment they may have achieved their goal of continuing the programme without the excessive bubbles in the equity and bond markets.

For people retiring the rise in yields could rise UK annuity rates in July and if so it would be worth taking advantage of the better income as we may see prices for bonds and gilts drift back up the US Federal Reserve does not reduce the stimulus levels.

News related stories:
Annuity income and equities reduce as Fed plans to stop stimulus
UK annuity income 7.7% lower as US Federal Reserve considers stimulus
UK annuity rates could rise 3% as gilt yields end on a high
Impaired annuity rates up to 4% higher as gilt yields rise
Best annuity income and markets fall 1.6% after US Fed stimulus fears
Related internet links:
BBC - Global markets fall with end to US stimulus
Guardian - Sell-off in world markets after Fed end to QE
FT - Global sell-off raises turbulence fears
FT - Bernanke strikes to great effect
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