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Author: JimLuckett Big red star, 1000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 77108  
Subject: Re: Barclays inflation protected notes Date: 12/24/2011 10:36 AM
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recent offering of 20-year Barclays inflation protected notes:

DescriptionIILPN: $100+inflation
monProduct TypeInflation-Indexed Level-Pay
NoteMaturity01 Dec 2031
CurrencyUSDDenomination
$18,700
Details:Issue Date01 Dec 2011

Pays you $100/month, indexed, for 20 years. Then nothing.
Costs $18700 up front.

Actual
Coupon (%)2.59941%

So compared to T-bonds, you're getting 2.6% plus inflation vs. about half a percent plus inflation (with no return of principle until the end) with Tips.

Compared to single payment immediate annuities for a 60 year old: You're getting a payment equal to 6.4% of the initial cost for 20 years, plus inflation, vs. about 3.5% for greater of life or 20 years, plus inflation, with a cpi-indexed life annuity. Barclays might have financial strength equal to that of an insurance company selling annuities, but bank regulation is less strict than insurance company regulation and there is no state guaranty association backing up the first $100k of Barclays' obligation but there is for an annuity. In order to supplement the Barclays bond with another instrument that would make a package with a lifetime payment stream, you would have to couple it with longevity insurance (a very deferred lifetime single payment annuity) which might cost a 60-year-old another $4000 - $6000 to approximate same real income and inflation protection. At $6k cost, that drives the yield down to about 4.9%, which is still way better than an inflation-indexed annuity (but riskier). Or, you could contract with someone to kill you in 20 years (just kidding-- Merry Christmas).

Seems like the Barclays bond + longevity insurance annuity might be reasonable for a small portion of one's portfolio. Too bad you can't diversify accross issuers (because it's a unique instrument at this time).

By the way, I talked to my state's insurance company guaranty association to find out more about how they work. They have no money to speak of. What they have is the legal power to assess all the solvent life insurance companies doing business in the state whatever they need to make good on the first $100k of obligation to each customer of an insolvent insurance company when the insolvency occurs. So, their financial strength is not at all a function of state government budgetary condition, nor of a static fund they have accumulated (there is no fund), but rather is a function of the financial strength of all the life & annuity insurance companies licensed to do business in the state. Participation in the guaranty association is mandatory for insurance companies. Also bear in mind that regulators step in and take control of an insurance company when minimum ratios are not met. They don't wait for management to drive it completely bust, if they can help it.

Another by-the-way: I am looking at Ohio National's guaranteed withdrawal variable annuity. Higher fees than Vanguard's similar product, but also higher benefits: 5% withdrawal rate and a guaranteed 8% simple annual increase in the withdrawal base (withdrawal base is the notional balance that answers the question "5% of what?") for each year among the first 10 that you skip the allowed withdrawal, with a bonus that if you skip all 10 then instead of a cumulative 80% guaranteed gain in the withdrawal base, you get 100% gain (double what you invested, in other words, equal to 7% compound). So, put in $100k, take nothing for 10 years, and get at least $10k per year for life of you and spouse (whoever lives longer). If the portfolio outperforms the withdrawals plus heavy fees, plus whatever boost you earned by deferrals (unlikely unless we have a strong bull market), then the withdrawal base is further increased to bring it up to the account value so you get more in your annual guaranteed withdrawal. And there is a death benefit, which is too complicated to explain here, but it might be something. And there is a REIT angle: You can put up to 15% of the portfolio into a Fidelity real estate fund (plus you would have 30% in a bond fund and the rest in another stock fund -- could be the Ohio National S&P 500 index fund, but it's not worthy of the name: 0.49% annual fund expense ratio instead of the sub-0.2% it should be. Still, I think it's the lowest cost stock fund they allow you to use, so it is probably the best bet). I would look upon it as a fixed annuity with the possibility of backing out 6+ years down the road and getting back some kind of lump sum in the event your life situation drastically changed. Before 6 years there is a stiff breakup fee. Plus it's a lottery ticket on the chance of another strong bull market that would make all the fees trivial by comparison. It would be fun to ride along with a raging bull knowing you didn't have to worry about when to sell because a rising account value ratchets up the withdrawal base and any subsequent crash cannot bring your withdrawal base back down, (provided the bull lasts at least long enough to cross an account annual anniversary date -- they recalibrate the withdrawal base for increases in the account value only once per year). In short, the Ohio National guaranteed withdrawal variable annuity is an investment any Rube Goldberg clone will love.

Ohio National's thingy is called "Oncore" (get it?) and comes in many flavors. The "value" flavor has the lowest fees. The guaranteed lifetime withdrawal feature is an add-on rider that itself costs 1.2% for a joint benefit. They reserve the right to increase that fee (up to double), but you can opt out of any increase by giving up the right to future increases in the withdrawal base (no big sacrifice if the account value has fallen way below the withdrawal base and you are past the point where you can earn 8% bonuses for foregoing withdrawals). And, fees do not lower your guaranteed withdrawal, they just lower your account value, so if you look upon it as basically a fixed annuity + lottery ticket, the fees are irrelevant. On top of the 1.2%, other fees totalling about 1% are deducted from your account value for admin expenses and the mandatory death benefit, as are fund expenses of 0.49% or more (depending on the funds you invest in). So it's around 3% total fees unless I've missed some. When and if your account value goes to zero, they give you a lifetime level payment annuity equal in benefits to your guaranteed withdrawal amount at the time (unless the reason it went to zero is because you took out more than you were supposed to!) and the fees stop. Annuitization is mandatory when the youngest annuitant reaches 95 even if the account value is still positive. With a positive account value at 95, you might be able to buy an annuity worth more than the guaranteed withdrawal benefit you had been receiving, and you would have that option. But you would not get less than a continuation of the same stream of checks. This is all from memory, so do your own due diligence before you invest.
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