(James Saft is a Reuters columnist. The opinions expressed arehis own)
By James Saft
March 20 (Reuters) - British retirement savers will benefitgreatly from new pension rules, though inevitably some willsquander the opportunity.
Still, better to make one's own mistakes than have them madefor you by a system which, as it was, laid out a banquet forpension providers and produced table scraps for savers.
Under reforms announced on Wednesday, Britain will scrappension rules which obliged about 75 percent of retirees withdefined contribution, or 401k-style, pension plans to buyannuities.
Instead, most savers will have far more freedom to allocatetheir pensions as they like at the age they become eligible totake them, with the ability to take more money sooner and toinvest more or less as they wish.
The problem with the annuity system, which was designed toprotect savers from themselves by insuring they had a stableincome in retirement, was twofold; low interest rates and thelousy value offered by annuity providers.
The story illustrates key problems in private pensionprovision, and shows just how difficult it is to design a systemin which savers are treated fairly and are given the best chanceof an adequate retirement income.
Ideally pension systems either need a reasonable alignmentof interests, as in defined benefit plans in which the companyis on the hook for promised benefits, or a reasonable balance ofpower between consumers and providers.
The British system, as it was, had neither.
In essence British retirement savers represented a captivemarket for insurers selling annuities. While it is hard to knowexactly how bad the deal was which annuity sellers wereoffering, a look at their share prices after the news broke thattheir products were now only optional is a good guide. Legal &General (L&G), one of the largest such providers, sawits shares fall by as much as 15 percent after the news, despitethe fact that its entire retirement division, which sells farmore than annuities, produces less than a third of its revenues.
Other annuity providers also fell, notably Aviva Plc,down 5 percent Wednesday, and Prudential down about 4percent. Ratings agency Fitch commented on Thursday that whilemuch of the former annuity money would flow to other investmentproducts, those were likely to have a lower margin for sellers.
It should also be noted that the market segment with perhapsthe worst reputation for value among annuities was those offeredto people with documented health problems, whose shortened lifeexpectancies made them particularly rich pickings.
AN ACCIDENTAL VICTIM
The broader problem with annuities, of course, was oneno-one saw coming: the lowest interest rates in British history.As market interest rates are the most powerful force in settinghow much an annuity pays on a given lump sum, savers who came toretirement in recent years, after the Bank of England cut ratesto all-time lows, saw a huge drop in what they could expect byway of income.
That's an accident of history, but one which producedlong-term suffering for those who came to retirement amid lowrates.
While it is possible that we now live in alow-interest-rate, low-return world, the annuity system offeredno way for savers to hedge the risk that returns would actuallybe good in coming years.
In defense of the industry, an annuity represents a transferof risk, from the individual to the seller, who must pay upregardless of market conditions. That's a genuine service anddeserves a return, just likely a lower one than Britishcompanies have been able to extract.
To be sure, this reform, like so many others, will producesome perverse results. Buy-to-let flats come to mind as the kindof thing many British retirees may find attractive - after allproperty only ever goes up, right? People who put their pensionmoney into leveraged, illiquid and very likely overvalued singleassets are likely to wish in 20 years time they'd lost moneylittle by little instead with an annuity.
The new system is an improvement as it devolves power downto those most concerned and with the best information abouttheir personal situations, needs and desires: the saver.
Offering that kind of adult autonomy to people who are,after all, adults, is worth a great deal.
You never know, some might even buy annuities, especially ifthe rates in a no longer captive market improve.(At the time of publication James Saft did not own any directinvestments in securities mentioned in this article. He may bean owner indirectly as an investor in a fund. You can email himat jamessaft@jamessaft.com and find more columns at http://blogs.reuters.com/james-saft) (Editing by James Dalgleish)