Annuities
Annuities are often marketed as simple solutions to complex retirement challenges. They promise guaranteed income, protection from market volatility, and peace of mind. While these features appear attractive, the reality of annuities is far more nuanced. For many investors, particularly those with access to disciplined financial planning and investment management, annuities can represent high-cost products that obscure risk rather than reduce it.
The most immediate issue is cost. Annuities frequently carry commissions that can exceed five or even seven percent of the amount invested. These commissions are built into the product and are ultimately borne by the investor. They reduce the effective amount of capital put to work and create a structural misalignment: the salesperson is rewarded at the moment of sale, while the client bears the long-term consequences.
Beyond cost, annuities often fail to account properly for the time value of money. A promise of “lifetime income” can sound compelling, but the true value of that income depends on inflation, interest rates, and opportunity cost. For example, locking in a fixed payment stream may preserve nominal dollars but erode purchasing power over time. The investor receives certainty, but it is certainty in shrinking real terms.
Insurance-based annuities introduce an additional complexity. At their core, they are a wager on longevity. If the annuitant lives significantly longer than average, the contract may provide a favorable return relative to other fixed-income options. If the annuitant dies earlier, the insurer retains the benefit. In this respect, the product resembles pooled insurance more than it does a true investment strategy. That risk pooling has value, but only under the right circumstances and only at the right cost.
It is also important to recognize what is surrendered. Annuities often require giving up liquidity and flexibility. Once capital is committed, access can be limited or subject to significant penalties. This restricts the investor’s ability to adapt to changing needs, new opportunities, or unforeseen expenses. In contrast, a well-structured portfolio can be rebalanced, drawn down, or repositioned as circumstances evolve.
None of this is to suggest that annuities have no place. For some households, particularly those without defined benefit pensions, an immediate annuity may provide psychological comfort and genuine longevity protection. For others, the tax deferral available within certain contracts may be useful, provided the costs are fully transparent and competitive. But these are narrow use cases, not broad prescriptions.
The key is to evaluate annuities with the same rigor applied to any financial instrument: by comparing expected returns, accounting for inflation, recognizing the cost of lost liquidity, and understanding the incentives embedded in the product. When analyzed on these terms, most annuities do not withstand scrutiny.
At their best, annuities are tools of insurance. At their worst, they are expensive promises that exploit investor fears. For investors who value clarity and flexibility, a properly constructed portfolio will generally serve better. Retirement security is not built on guarantees alone; it is built on strategy, discipline, and the alignment of resources with goals.