Retirement bonds

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bobcat2
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Retirement bonds

Post by bobcat2 » Sun May 06, 2018 12:46 pm

The French government will soon be presenting possible reforms to the French retirement system. Three financial economists, Americans Robert Merton and Arun Muralidhar and French financial economist Lionel Martellini have proposed the creation of government retirement bonds as part of the solution.
...we suggest that the government regularly issue “retirement bonds”, the two main features of which would be, on the one hand, the deferment of the start of payments and, on the other hand, annuities that are constant in nominal terms (but adjusted for inflation) and paid over a fixed 20-year period, which roughly corresponds to life expectancy at retirement.

So, a 55 year-old today would buy a 2028 bond, which would start paying cash-flows upon retirement at 65 in 2028, and keep paying for 20 years, through to 2048. The mechanism would be particularly simple and transparent, making it straightforward for individuals with little or no financial expertise to constitute retirement savings: assuming a unit payment size of €5 per bond on a yearly frequency, an investor buying 2,000 retirement bonds would secure €10,000 replacement income per year for 20 years in retirement.

In France, in order to encourage more saving for the long term, these bonds could be specifically adapted to new forms of euro-denominated contracts to be defined under the PACTE bill. These bonds would be highly attractive throughout the entire Euro-zone as they would fit into any investment programme implemented by individuals or by pension funds. More generally, these bonds would provide the opportunity to develop new savings solutions that combine stocks and bonds, and aimed at producing replacement income during retirement rather than purely seeking performance with no second though about the ultimate purpose of doing so.
Link to above article in Le Monde - http://robertcmerton.com/wp-content/up ... nglish.pdf

Article is first in French and then in English.

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Re: Retirement bonds

Post by nisiprius » Mon May 07, 2018 12:59 pm

"the deferment of the start of payments..." -- attractive.
"...annuities that are constant in nominal terms (but adjusted for inflation)..." -- attractive.
"...and paid over a fixed 20-year period, which roughly corresponds to life expectancy at retirement." :?: :?: :?:
a 55 year-old today would buy a 2028 bond, which would start paying cash-flows upon retirement at 65 in 2028, and keep paying for 20 years, through to 2048.
And in 2048, what? The article doesn't say.

According to the Social Security life table, of 80,600 men reaching age 65, 34,771 will reach age 85. That means that 43% will outlive that 20-year period. For women it is 48,467/87,914 it is 55%, or more than half. That's not surprising, given that 20 years roughly equals average life expectancy, which in turn roughly equals the median, but... using these bonds, what exactly is the plan for retirees when they reach age 85 and the payments stop? What's the rest of the plan?

(It's vaguely reminiscent of the PIMCO "Real Income 2019" and "Real income 2029" bond funds, which were supposed to pay out inflation-adjusted income up until the specified date and then stop. However, PIMCO liquidated both funds prior to their end date).
Last edited by nisiprius on Mon May 07, 2018 1:06 pm, edited 1 time in total.
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Re: Retirement bonds

Post by bobcat2 » Mon May 07, 2018 1:05 pm

I find these bonds to be a very interesting assets for retirement. They are basically zero principal 20 year bonds. Another way to think of them is mini 20 year fixed term income annuities.

Use this for income up to life expectancy. Purchase longevity annuities over time as you age to replace the bond income with annuitized income beyond age 85. Longevity annuities are cheap, but relatively unattractive to many investors because the payouts are a long time away and go away if you die before the payout period begins. These bonds shorten the time to annuitization payout* and the benefit doesn't go away if you die. Buying these bonds beginning at say age 30 would be very inexpensive retirement income with the price of the individual bonds about $50 or less even with low real interest rates of 1% or so.

* Buying longevity annuities in chunks beginning at age 75 should be more attractive to many investors than buying one longevity annuity at age 65 or earlier.

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Last edited by bobcat2 on Mon May 07, 2018 1:11 pm, edited 1 time in total.
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Re: Retirement bonds

Post by triceratop » Mon May 07, 2018 1:08 pm

nisiprius wrote:
Mon May 07, 2018 12:59 pm
"the deferment of the start of payments..." -- attractive.
"...annuities that are constant in nominal terms (but adjusted for inflation)..." -- attractive.
"...and paid over a fixed 20-year period, which roughly corresponds to life expectancy at retirement." :?: :?: :?
a 55 year-old today would buy a 2028 bond, which would start paying cash-flows upon retirement at 65 in 2028, and keep paying for 20 years, through to 2048.
And in 2048, what? The article doesn't say.

According to the Social Security life table, of 80,600 men reaching age 65, 34,771 will reach age 85. That means that 43% will outlive that 20-year period. For women it is 48,467/87,914 it is 55%, or more than half. That's not surprising, given that 20 years roughly equals average life expectancy, which in turn roughly equals the median, but... using these bonds, what exactly is the plan for retirees when they reach age 85 and the payments stop? What's the rest of the plan?

(It's vaguely reminiscent of the PIMCO "Real Income 2019" and "Real income 2029" bond funds, which were supposed to pay out inflation-adjusted income up until the specified date and then stop. However, PIMCO liquidated both funds prior to their end date).
Maybe French people drink so much wine that they have shorter life expectancies, even at age 65, than their US cohort? :wink: (actually this is not true, if you look at the data from OECD below, but it's a joke so let me have my chuckle)

In seriousness, I'm actually not entirely sure how to understand the SSA data compared to OECD data here which has completely different life expectancies, even for the US, than the SSA. I'll note that the OECD data more closely aligns with the French government's plans but life expectancy is not exactly what one should plan for given the high probability of outliving one's expectancy as nisiprius wisely alludes to with "What's the rest of the plan?".
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Re: Retirement bonds

Post by gmaynardkrebs » Mon May 07, 2018 2:11 pm

nisiprius wrote:
Mon May 07, 2018 12:59 pm
And in 2048, what?
Le Guillotine?

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Re: Retirement bonds

Post by bobcat2 » Mon May 07, 2018 3:07 pm

Using bonds for safe income beyond age 85 is a very expensive proposition. You know your chances of living to age 100 or more is very low. But you don't know if you will live three years or less, or ten years or more. If you plan for too few years you will face an income shortfall. If you plan for too many years you will have wasted resources. The bonds don't care how old you are. An annuity that begins at age 85 is acutely aware of how old you are and is therefore a much better deal. The insurance company knows that on average it will have to pay out to annuitants that begin benefits at age 85 for six years or less.

OTOH, particularly for a couple, the retirement bonds are a good deal. For one thing if you die before age 85 your partner gets the income. Something that doesn't happen with an annuity unless you are willing to accept sharply lower benefits.

For some reason this thread has reminded me of the old witticism by Errol Flynn. Perhaps meant only partially as tongue in cheek.
Any man who dies with more than $10,000 to his name has miscalculated. - Errol Flynn
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Re: Retirement bonds

Post by Day9 » Mon May 07, 2018 3:23 pm

Any man who dies with more than $10,000 to his name has miscalculated. - Errol Flynn
Adjusting for inflation since the year Flynn passed away (1959) amounts to $86,000.

I'm in favor of any program to encourage people to save for retirement. Hopefully this French program has more success than the recent failed American program "myRA".
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Re: Retirement bonds

Post by bobcat2 » Mon May 07, 2018 3:27 pm

Day9 wrote:
Mon May 07, 2018 3:23 pm
Any man who dies with more than $10,000 to his name has miscalculated. - Errol Flynn
Adjusting for inflation since the year Flynn passed away (1959) amounts to $86,000.
Still not much, once you include the house. :wink:

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Re: Retirement bonds

Post by Angst » Mon May 07, 2018 4:35 pm

bobcat2 wrote:
Mon May 07, 2018 1:05 pm
I find these bonds to be a very interesting assets for retirement. They are basically zero principal 20 year bonds. Another way to think of them is mini 20 year fixed term income annuities.
Yes, sounds nice! (Including the inflation component of course.) I've always kinda wished for zero-coupon TIPS, but zero principal 20 year bonds with fixed, real payments sounds so much easier. Still I'm not sure about that lone 20yr choice; I'm with Nisi on the lack of details...
bobcat2 wrote:
Mon May 07, 2018 1:05 pm
Buying these bonds beginning at say age 30 would be very inexpensive retirement income with the price of the individual bonds about $50 or less even with low real interest rates of 1% or so.
What would I want with payments from age 40 to 60? The article is really quite vague but I inferred nothing to suggest the deferral period would be anything but 10 years. And the 20yrs for payments sounds like a compromise to make it less complicated to implement. To satisfy a Boglehead though, I think there would have to be multiple time frames addressed. Maybe having 3 coupon payment periods would satisfy all? Say 20, 30 and 40yrs, so an individual could take their pick? But that requires more work from the bond market.

Bob, are you suggesting that the delay period would be variable, based on one's planned retirement date? That would, to my thinking, eliminate the possibility of this working b/c there would be so many possible bonds out there that pricing/selling would be overcomplicated. If there was only one flavor of these bonds, they could be marketable securities sold at auction - I assumed that was the plan, and that would be its strength I think.

bobcat2 wrote:
Mon May 07, 2018 3:07 pm
Using bonds for safe income beyond age 85 is a very expensive proposition. You know your chances of living to age 100 or more is very low. But you don't know if you will live three years or less, or ten years or more. If you plan for too few years you will face an income shortfall. If you plan for too many years you will have wasted resources. The bonds don't care how old you are. An annuity that begins at age 85 is acutely aware of how old you are and is therefore a much better deal. The insurance company knows that on average it will have to pay out to annuitants that begin benefits at age 85 for six years or less.
Ah, so buying these retirement bonds at, say 55, guarantees your payments from 65 to 85, at which time you have a separate nest egg you've been saving specifically to buy a SPIA as the final investment. I dunno... requiring J.Q. Public to save/manage those funds until age 85 once again complicates things. Unless there were highly discounted deferred annuities available at age 55 to take care of this final investment? I think that the authors would like for us to be able to get all our ducks in a row at age 55 and not have to worry too much about income after that.

Once again, the way I read the article, I'm inclined to think of these retirement bonds as marketable government securities. And they wouldn't stop paying out nor lose their market value at the death of the owner, and one might choose to sell if their long-term prospects suddenly dim. I suppose one could also call them deferred, term-certain, inflation adjusted, marketable annuities... but I kinda like "Retirement Bonds". Heck, if one makes it to age 85 they might just sell as much of their remaining "retirement bonds" necessary to purchase a SPIA, and then gift the rest to the heirs. But I wouldn't want them limited to just 20yrs... The article sounds like a great start though, and its penultimate paragraph bears quoting:
The Article wrote:The technical details of these issuances, such as the start date of payments, the duration of cash-flows and the possibility of indexing them to inflation, must be defined by the issuers, ideally the French Treasury for public debt, or public or semi-public bodies that are explicitly or implicitly guaranteed by the state and equipped to issue large stocks of debt. In addition to their social utility, these retirement bonds may also provide the issuer with benefits. Their deferred maturity makes them particularly well suited for financing major infrastructure projects, which incur significant expenses when they are initiated and only generate income once completed.

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Re: Retirement bonds

Post by wjo » Mon May 07, 2018 5:24 pm

This is interesting.

I wonder, though, can a government afford to pay for inflation protection for all its retirees? I seem to remember and article from Bill Bernstein discussing the challenges of TIPS if everyone wanted one. The broader point is that for countries with significant parts of the population retired, it is difficult for the remaining workers to provided all the desired goods and services (perhaps automation will save us? - Japan may lead the way).

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Re: Retirement bonds

Post by willthrill81 » Mon May 07, 2018 5:34 pm

Given the general lack of interest in annuities, which these closely resemble, I doubt that the American public at least would really go for this sort of thing. Personally, I wouldn't touch it because it depends on no significant changes being made about the program over the course of many decades of contribution and payouts, and the real rate of return would likely be very low. SPIAs make more sense to me because the retiree can determine if and when they choose to take one out, with many possibilities regarding the period covered, COLA and other possible riders, etc. And with most SPIAs, the payout is for life. The limitation of benefits for 20 years is a big problem with this, as Nisiprius and others have justly pointed out because retirees who are planning correctly will still have to rely on more traditional retirement income solutions.

I'd rather have my own assets under my control rather than ceding those over to a government entity for decades. I know we do this with Social Security, but we have no choice in the matter there. Sadly, most people have already demonstrated that they will not save more than a pittance toward financial independence/retirement unless forced to.
Last edited by willthrill81 on Mon May 07, 2018 5:38 pm, edited 1 time in total.
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Re: Retirement bonds

Post by bobcat2 » Mon May 07, 2018 5:36 pm

You pick the year you want the 20 year payments to begin. Typically you would pick the year you are age 65 for the payments to begin. The deferral of ten years was simply an example. I'm guessing this would be set up so that the beginning year could be at least 40 years from the present. That way people can be socking away safe retirement income over the entirety of their work career. At least I believe that is the intent of the finance professors. :wink:

These are marketable government bonds much like Treasuries. You are not turning anything over to the government for decades. Unless you think purchasing Treasury bonds is turning over personal assets to the government.

They are not like life annuities because they have a fixed term of 20 years and they can be sold on the market or bequested to partners or other heirs. One of their nice properties is these bonds are cheap. They would often sell for $50 or less each so middle income and even lower income people could purchase them to provide for some safe retirement income. Life annuities can rarely be purchased for less than $10,000 chunks and sometimes the minimum purchase is $20,000 to $25,000.

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Re: Retirement bonds

Post by grok87 » Tue May 08, 2018 10:48 am

Angst wrote:
Mon May 07, 2018 4:35 pm
bobcat2 wrote:
Mon May 07, 2018 1:05 pm
I find these bonds to be a very interesting assets for retirement. They are basically zero principal 20 year bonds. Another way to think of them is mini 20 year fixed term income annuities.
Yes, sounds nice! (Including the inflation component of course.) I've always kinda wished for zero-coupon TIPS, but zero principal 20 year bonds with fixed, real payments sounds so much easier.
To be honest this whole thing sounds like an idea only an academic could love ( or a group of academics also known as a “pomposity of professors”...)

I agree with your wish for zero-coupon tips. To me that is enough. Once those are available individual investors can build there own tips ladders with ease. Or etf providers can put these 20 year things together.

One might ask the question: why don’t tips strips already exist in the way nominal strips exist? I think the answer is liquidity. Ie the tips market is not liquid enough for that to work yet. So one thing governments can do is issue more tips or otherwise act to increase the liquidity of the tips market.

The problem with these retirement bonds is that they would be very illiquid.
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Re: Retirement bonds

Post by aristotelian » Tue May 08, 2018 10:56 am

Isn't paying into Social Security essentially buying "retirement bonds"? Sounds like this would be like adding a voluntary component.

Seems like an interesting idea, but I would be interested in a lifetime payout option as well.

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Re: Retirement bonds

Post by Angst » Tue May 08, 2018 11:25 am

grok87 wrote:
Tue May 08, 2018 10:48 am
To be honest this whole thing sounds like an idea only an academic could love ( or a group of academics also known as a “pomposity of professors”...)
In this case, I think there's a lot more "pie in the sky" going on here than pomposity, so I'm somewhat in agreement with you. But what's wrong with dreaming? And what's the alternative? The "litter of laymen"? (Actually, that's probably a "laity".) Personally, I'll admit that I'm inclined to identify with some of the elitists out there. Do we need an "elegy of elitists" to come up and recite? God help us. Give me the professors, thank you.

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Re: Retirement bonds

Post by bobcat2 » Wed May 09, 2018 11:59 am

One of the very nice aspects of these bonds is that because of their low price, median income households and households of the working near poor can purchase them at regular two week intervals in their DC retirement savings plans. These same households could not possibly purchase zero coupon TIPS on a regular basis in their DC plan.
aristotelian wrote:
Tue May 08, 2018 10:56 am
Seems like an interesting idea, but I would be interested in a lifetime payout option as well.
You could sell some or all of your retirement bonds at retirement, or in retirement, and purchase a life annuity.

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Re: Retirement bonds

Post by willthrill81 » Wed May 09, 2018 1:57 pm

aristotelian wrote:
Tue May 08, 2018 10:56 am
Isn't paying into Social Security essentially buying "retirement bonds"? Sounds like this would be like adding a voluntary component.
That's my take on this idea as well. I don't see many Americans going for that. "Do you want to contribute even more to SS to increase your monthly benefits decades from now?" I think that most, myself included, would rather invest in hard assets that can be liquidated if needed well before an arbitrary age that may not be attained for decades.
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Re: Retirement bonds

Post by gmaynardkrebs » Wed May 09, 2018 4:56 pm

willthrill81 wrote:
Wed May 09, 2018 1:57 pm
aristotelian wrote:
Tue May 08, 2018 10:56 am
Isn't paying into Social Security essentially buying "retirement bonds"? Sounds like this would be like adding a voluntary component.
That's my take on this idea as well. I don't see many Americans going for that. "Do you want to contribute even more to SS to increase your monthly benefits decades from now?" I think that most, myself included, would rather invest in hard assets that can be liquidated if needed well before an arbitrary age that may not be attained for decades.
How wise is it to liquidate the hard assets in your retirement portfolio early?

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Re: Retirement bonds

Post by willthrill81 » Wed May 09, 2018 5:12 pm

,
gmaynardkrebs wrote:
Wed May 09, 2018 4:56 pm
willthrill81 wrote:
Wed May 09, 2018 1:57 pm
aristotelian wrote:
Tue May 08, 2018 10:56 am
Isn't paying into Social Security essentially buying "retirement bonds"? Sounds like this would be like adding a voluntary component.
That's my take on this idea as well. I don't see many Americans going for that. "Do you want to contribute even more to SS to increase your monthly benefits decades from now?" I think that most, myself included, would rather invest in hard assets that can be liquidated if needed well before an arbitrary age that may not be attained for decades.
How wise is it to liquidate the hard assets in your retirement portfolio early?
In general, I don't think that it's wise. But sometimes, life happens and you need at least some of the money. One of this forum's frequent posters, KlangFool, repeatedly says that you must be ready for forced early retirement and/or an extended period of unemployment, and I think that there's real merit to that argument. And what if you decide that you'll retire at 55 and these bonds won't begin payments until you're 65, as I'm planning to do? It's not even worthwhile for me to factor in Social Security because I'll likely be 70 before benefits begin, and attempting to fill that 15 year gap is about equivalent to just ignoring SS altogether.

What's worse than selling assets that are currently 'down'? Not having any assets to sell when you really need the money.
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Re: Retirement bonds

Post by marcopolo » Thu May 10, 2018 8:53 am

willthrill81 wrote:
Wed May 09, 2018 5:12 pm
It's not even worthwhile for me to factor in Social Security because I'll likely be 70 before benefits begin, and attempting to fill that 15 year gap is about equivalent to just ignoring SS altogether.
Without derailing this thread too much, can you expand on this a bit. I have 18 years to fill before planned start of SS at age 70. I also have been ignoring SS due to the long gap, and uncertainty around the program. But, it is really more of a gut feel, and perhaps an abundance of caution. I have been told by some that it is too conservative to ignore SS completely, and maybe should use a discounted amount. I am wondering if there is a more quantitative rationale for ignoring SS when the gap is large, maybe related to perpetual withdrawal rates?
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Re: Retirement bonds

Post by willthrill81 » Thu May 10, 2018 9:37 am

marcopolo wrote:
Thu May 10, 2018 8:53 am
willthrill81 wrote:
Wed May 09, 2018 5:12 pm
It's not even worthwhile for me to factor in Social Security because I'll likely be 70 before benefits begin, and attempting to fill that 15 year gap is about equivalent to just ignoring SS altogether.
Without derailing this thread too much, can you expand on this a bit. I have 18 years to fill before planned start of SS at age 70. I also have been ignoring SS due to the long gap, and uncertainty around the program. But, it is really more of a gut feel, and perhaps an abundance of caution. I have been told by some that it is too conservative to ignore SS completely, and maybe should use a discounted amount. I am wondering if there is a more quantitative rationale for ignoring SS when the gap is large, maybe related to perpetual withdrawal rates?
I'll use some round numbers to illustrate. Let's say that I need $80k of annual income starting at age 55, and by deferring SS to age 70, my annual benefits would be $35k. If I ignore SS and am planning on a 40 year retirement, then I'll probably need 25x to 30x my annual spending or $2.0 to $2.4 million at age 55.

Now let's try to factor in SS. At age 70, I would need $45k of portfolio income and about 25x that amount in my portfolio, or $1.125 million. Therefore, assuming that all of my income from age 55 to 70 was in something like a TIPS ladder, I would need 15x my annual spending to cover that gap at age 55, or $1.2 million. Yes, that's probably a bit on the high side since that's estimating just 0% real returns over that period, but unless fairly high rates of return are used, it doesn't change the needed amount by much. So by adding the amount needed to cover the gap plus the retirement portfolio, I'd need $1.2 million at age 55 plus enough in my portfolio to reach $1.125 million in 15 years with no additional contributions, perhaps around $750k, or a total of around $2 million.

So I'd need about $2 million if I took SS into account, and $2-$2.4 million if I didn't. With such a small difference, I choose to ignore SS for the sake of simplicity and merely treat it as 'lifestyle and old age insurance'. For an even longer gap period like 18 years, the difference between the two would shrink even more.
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Re: Retirement bonds

Post by marcopolo » Thu May 10, 2018 11:19 am

willthrill81 wrote:
Thu May 10, 2018 9:37 am
marcopolo wrote:
Thu May 10, 2018 8:53 am
willthrill81 wrote:
Wed May 09, 2018 5:12 pm
It's not even worthwhile for me to factor in Social Security because I'll likely be 70 before benefits begin, and attempting to fill that 15 year gap is about equivalent to just ignoring SS altogether.
Without derailing this thread too much, can you expand on this a bit. I have 18 years to fill before planned start of SS at age 70. I also have been ignoring SS due to the long gap, and uncertainty around the program. But, it is really more of a gut feel, and perhaps an abundance of caution. I have been told by some that it is too conservative to ignore SS completely, and maybe should use a discounted amount. I am wondering if there is a more quantitative rationale for ignoring SS when the gap is large, maybe related to perpetual withdrawal rates?
I'll use some round numbers to illustrate. Let's say that I need $80k of annual income starting at age 55, and by deferring SS to age 70, my annual benefits would be $35k. If I ignore SS and am planning on a 40 year retirement, then I'll probably need 25x to 30x my annual spending or $2.0 to $2.4 million at age 55.

Now let's try to factor in SS. At age 70, I would need $45k of portfolio income and about 25x that amount in my portfolio, or $1.125 million. Therefore, assuming that all of my income from age 55 to 70 was in something like a TIPS ladder, I would need 15x my annual spending to cover that gap at age 55, or $1.2 million. Yes, that's probably a bit on the high side since that's estimating just 0% real returns over that period, but unless fairly high rates of return are used, it doesn't change the needed amount by much. So by adding the amount needed to cover the gap plus the retirement portfolio, I'd need $1.2 million at age 55 plus enough in my portfolio to reach $1.125 million in 15 years with no additional contributions, perhaps around $750k, or a total of around $2 million.

So I'd need about $2 million if I took SS into account, and $2-$2.4 million if I didn't. With such a small difference, I choose to ignore SS for the sake of simplicity and merely treat it as 'lifestyle and old age insurance'. For an even longer gap period like 18 years, the difference between the two would shrink even more.
This seems like you are comparing apples to oranges.

The only reason these two produce close to the same numbers is because in one case you are assume some reasonable growth rate, and in the other you are assuming 0% real growth rate, over pretty long periods of time.

To ignore SS and say you need 30x for a 40 year retirement, you would need something like 2% real growth.

The case where you would need 45k/yr from portfolio starting at age 70 does not require anywhere near $1.125M now if you assume 2% real growth, it is something more like $800k. Same thing with the bridge amount, do you really keep all that in TIPS, AND a balanced portfolio for the rest? That seems exceedingly conservative. So, instead of a $1.2M, it might be more like $1M. So, you are really comparing $1.8M to $2.4M. Seems like real money to me.

Having said that, I view it the same way as you do, a "lifestyle insurance". But, i think it does definitely impact the available spending numbers quite a bit.
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Re: Retirement bonds

Post by willthrill81 » Thu May 10, 2018 11:42 am

marcopolo wrote:
Thu May 10, 2018 11:19 am
willthrill81 wrote:
Thu May 10, 2018 9:37 am
marcopolo wrote:
Thu May 10, 2018 8:53 am
willthrill81 wrote:
Wed May 09, 2018 5:12 pm
It's not even worthwhile for me to factor in Social Security because I'll likely be 70 before benefits begin, and attempting to fill that 15 year gap is about equivalent to just ignoring SS altogether.
Without derailing this thread too much, can you expand on this a bit. I have 18 years to fill before planned start of SS at age 70. I also have been ignoring SS due to the long gap, and uncertainty around the program. But, it is really more of a gut feel, and perhaps an abundance of caution. I have been told by some that it is too conservative to ignore SS completely, and maybe should use a discounted amount. I am wondering if there is a more quantitative rationale for ignoring SS when the gap is large, maybe related to perpetual withdrawal rates?
I'll use some round numbers to illustrate. Let's say that I need $80k of annual income starting at age 55, and by deferring SS to age 70, my annual benefits would be $35k. If I ignore SS and am planning on a 40 year retirement, then I'll probably need 25x to 30x my annual spending or $2.0 to $2.4 million at age 55.

Now let's try to factor in SS. At age 70, I would need $45k of portfolio income and about 25x that amount in my portfolio, or $1.125 million. Therefore, assuming that all of my income from age 55 to 70 was in something like a TIPS ladder, I would need 15x my annual spending to cover that gap at age 55, or $1.2 million. Yes, that's probably a bit on the high side since that's estimating just 0% real returns over that period, but unless fairly high rates of return are used, it doesn't change the needed amount by much. So by adding the amount needed to cover the gap plus the retirement portfolio, I'd need $1.2 million at age 55 plus enough in my portfolio to reach $1.125 million in 15 years with no additional contributions, perhaps around $750k, or a total of around $2 million.

So I'd need about $2 million if I took SS into account, and $2-$2.4 million if I didn't. With such a small difference, I choose to ignore SS for the sake of simplicity and merely treat it as 'lifestyle and old age insurance'. For an even longer gap period like 18 years, the difference between the two would shrink even more.
This seems like you are comparing apples to oranges.

The only reason these two produce close to the same numbers is because in one case you are assume some reasonable growth rate, and in the other you are assuming 0% real growth rate, over pretty long periods of time.

To ignore SS and say you need 30x for a 40 year retirement, you would need something like 2% real growth.

The case where you would need 45k/yr from portfolio starting at age 70 does not require anywhere near $1.125M now if you assume 2% real growth, it is something more like $800k. Same thing with the bridge amount, do you really keep all that in TIPS, AND a balanced portfolio for the rest? That seems exceedingly conservative. So, instead of a $1.2M, it might be more like $1M. So, you are really comparing $1.8M to $2.4M. Seems like real money to me.

Having said that, I view it the same way as you do, a "lifestyle insurance". But, i think it does definitely impact the available spending numbers quite a bit.
If I'm planning for a life expectancy of 95, then yes, I'd need at least $1.125M to get $45k of annual income with a high degree of confidence. Remember that you can't use simple growth rate assumptions for the withdrawal phase; sequence of returns risk has a bigger impact than rate of return.

I agree that an all TIPS portfolio for 15 years of income is conservative, but for that short of a time frame, I wouldn't start with more than 50% stocks and would shift towards more bonds over the period. Historically, such a strategy might give provide one or two percent more real growth over that period, which isn't enough to really move the needle much.

As you note, we're probably talking about a maximum 'reasonable' range of $1.8M to $2.4M. The $600k is a chunk of money, but historically that's an average of only a few years of additional growth. Considering the uncertainty surrounding SS benefits according to the SS Administration (they say that benefits will be cut by around 30% under current law within 20 years or sooner, which could cut the above benefits down to $31.5k and increase the needed portfolio by over $300k), I choose to go the conservative route and ignore SS. If someone wants to try to account for it and 'shave' perhaps 25%, for instance, off of their needed portfolio, that's up to them.
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Re: Retirement bonds

Post by bobcat2 » Sat May 12, 2018 10:31 am

willthrill81 wrote:
Thu May 10, 2018 11:42 am
As you note, we're probably talking about a maximum 'reasonable' range of $1.8M to $2.4M. The $600k is a chunk of money, but historically that's an average of only a few years of additional growth. Considering the uncertainty surrounding SS benefits according to the SS Administration (they say that benefits will be cut by around 30% under current law within 20 years or sooner, which could cut the above benefits down to $31.5k and increase the needed portfolio by over $300k), I choose to go the conservative route and ignore SS. If someone wants to try to account for it and 'shave' perhaps 25%, for instance, off of their needed portfolio, that's up to them.
Medicare is in much worse financial shape than Social Security. Does your "conservative route" also ignore Medicare. In the future Medicare benefits for most retirees will be about as valuable as Social Security benefits. If you are going to be consistent with your conservative planning, it would seem you should also ignore Medicare benefits.

Example - a two earner couple both with average earnings retiring at age 65 in 2045 - Here are the expected present value of their benefits in 2045.
(In 2015 dollars)
PV of Social Security benefits $898,000
PV of Medicare benefits (net of premiums) $871,000

So if is a couple is retiring in 2045 the "conservative route" requires coming up with an additional $871,000 in additional retirement expenses. Also the combined value of ignoring both SS & Medicare is all but $31,000 of a $1.8 million portfolio, which is a lot more 'shaving' than 25%. :(

Source: Urban Institute - Social Security and Medicare Lifetime Benefits and Taxes
Link - https://www.urban.org/sites/default/fil ... -Taxes.pdf

BobK
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Re: Retirement bonds

Post by gmaynardkrebs » Sat May 12, 2018 10:48 am

bobcat2 wrote:
Sat May 12, 2018 10:31 am
willthrill81 wrote:
Thu May 10, 2018 11:42 am
As you note, we're probably talking about a maximum 'reasonable' range of $1.8M to $2.4M. The $600k is a chunk of money, but historically that's an average of only a few years of additional growth. Considering the uncertainty surrounding SS benefits according to the SS Administration (they say that benefits will be cut by around 30% under current law within 20 years or sooner, which could cut the above benefits down to $31.5k and increase the needed portfolio by over $300k), I choose to go the conservative route and ignore SS. If someone wants to try to account for it and 'shave' perhaps 25%, for instance, off of their needed portfolio, that's up to them.
Medicare is in much worse financial shape than Social Security. Does your "conservative route" also ignore Medicare. In the future Medicare benefits for most retirees will be about as valuable as Social Security benefits. If you are going to be consistent with your conservative planning, it would seem you should also ignore Medicare benefits. I imagine one sets a probability discount for the future values in ones safe asset portfolio?

Example - a two earner couple both with average earnings retiring at age 65 in 2045 - Here are the expected present value of their benefits in 2045.
(In 2015 dollars)
PV of Social Security benefits $898,000
PV of Medicare benefits (net of premiums) $871,000

So if is a couple is retiring in 2045 the "conservative route" requires coming up with an additional $871,000 in additional retirement expenses. Also the combined value of ignoring both SS & Medicare is all but $31,000 of a $1.8 million portfolio, which is a lot more 'shaving' than 25%. :(

Source: Urban Institute - Social Security and Medicare Lifetime Benefits and Taxes
Link - https://www.urban.org/sites/default/fil ... -Taxes.pdf

BobK
Based on that, would you say that it's excessively conservative to ignore either? Understanding that the debating future of entitlements is prohibited, just asking for a general sense of how one deals with this issue.

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Re: Retirement bonds

Post by willthrill81 » Sat May 12, 2018 11:00 am

bobcat2 wrote:
Sat May 12, 2018 10:31 am
willthrill81 wrote:
Thu May 10, 2018 11:42 am
As you note, we're probably talking about a maximum 'reasonable' range of $1.8M to $2.4M. The $600k is a chunk of money, but historically that's an average of only a few years of additional growth. Considering the uncertainty surrounding SS benefits according to the SS Administration (they say that benefits will be cut by around 30% under current law within 20 years or sooner, which could cut the above benefits down to $31.5k and increase the needed portfolio by over $300k), I choose to go the conservative route and ignore SS. If someone wants to try to account for it and 'shave' perhaps 25%, for instance, off of their needed portfolio, that's up to them.
Medicare is in much worse financial shape than Social Security. Does your "conservative route" also ignore Medicare. In the future Medicare benefits for most retirees will be about as valuable as Social Security benefits. If you are going to be consistent with your conservative planning, it would seem you should also ignore Medicare benefits.
I do indeed. I will not pull the employed plug until we have enough income-producing assets to cover health insurance. If I retire at 55, we'll still have at least a decade to pay for our healthcare coverage out of our own pocket anyway.

At this point, the best looking options for us that I've seen, in order of favorability to us, are health sharing programs, followed by medical tourism, then traditional health insurance, and becoming ex-patriots. But no one knows what the landscape will look like in two years much less twenty, so we'll just have to wait and see and save buckets o' cash in the meantime.
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

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Re: Retirement bonds

Post by bobcat2 » Sat May 12, 2018 11:16 am

Hi willthrill81,

So, just to be clear, you add about $900,000 to what you need for retirement compared to what people retiring within the last 10 years have needed for health care. Have I got that right?

And you also add about another $1,000,000 for the absence of Social Security income that people retiring within the last 10 years receive in SS benefits. I picked $1,000,000 because I am assuming your family income is above average. That's $1,900,000 in added on expenses. That's a lot of adding on for people with retirement portfolios of about $2 million. :wink:

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Re: Retirement bonds

Post by willthrill81 » Sat May 12, 2018 2:12 pm

bobcat2 wrote:
Sat May 12, 2018 11:16 am
Hi willthrill81,

So, just to be clear, you add about $900,000 to what you need for retirement compared to what people retiring within the last 10 years have needed for health care. Have I got that right?

And you also add about another $1,000,000 for the absence of Social Security income that people retiring within the last 10 years receive in SS benefits. I picked $1,000,000 because I am assuming your family income is above average. That's $1,900,000 in added on expenses. That's a lot of adding on for people with retirement portfolios of about $2 million. :wink:

BobK
Per my above analysis, ignoring SS adds at most $600k to my needed portfolio at my planned retirement age, probably more like $400k.

Our family income is well above average, but our savings rate is 50%, so we actually spend less than the median U.S. household. I don't plan nor need to replace my income.

I don't see how you're getting $900k needed to ignore Medicare. That sum would yield $27-$36k of income, while a traditional health insurance plan at our planned retirement age in our area would cost around $12k annually. Yes, there are deductibles and such on top of that, but I doubt that we would need $30k to cover healthcare costs. But if we needed to spend more that much on healthcare, it would just cut into our planned discretionary spending, which is larger than that amount anyway. We actually plan to spend more in retirement than we do now.

The main reason that I ignore SS is because I plan to retire so long before beginning SS benefits that it doesn't change my needed portfolio that much. I have little doubt that SS or Medicare will go away, but I do think it likely that they'll both experience changes that we simply can't anticipate yet. My plan is for us to save intensively while we can, and if I need to delay retirement to build my portfolio when we have a better idea of what the situation looks like, I'll certainly try my best to do so.
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

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Re: Retirement bonds

Post by bobcat2 » Sat May 12, 2018 2:58 pm

willthrill81 wrote:
Sat May 12, 2018 2:12 pm

Per my above analysis, ignoring SS adds at most $600k to my needed portfolio at my planned retirement age, probably more like $400k. ...

I don't see how you're getting $900k needed to ignore Medicare.

Code: Select all

Social Security & Medicare Lifetime Benefits & Taxes

TABLE 15
Expected Present Value of Lifetime Social Security and Medicare Benefits

Married couple with two average earners 

Year cohort                  First year Social     Lifetime SS Benefit    Lifetime Medicare Benefit
turns age 65                Security benefit
 
2045                              50,100                 898,000                   871,000  

Source: C. Eugene Steuerle and Caleb Quakenbush, Urban Institute  (2015 dollars)
So as I said 'about $900,000' to ignore Medicare.

For a married couple with one high earner and one average earner turning 65 in 2045 the present value of their SS benefit is $1,071,000 - not $400,000. See Table 16.

data source: Social Security & Medicare Lifetime Benefits & Taxes - Urban Institute
Link -https://www.urban.org/sites/default/fil ... -Taxes.pdf

What reputable external source do you rely on for your data on value of SS & Medicare benefits in the future?

From the beginning of the Urban Institute report.
Benefits from government retirement programs - Social Security and Medicare - vary over time, but the trend has been toward higher lifetime benefits for each successive cohort. Expansion derives mainly from increases in real annual benefits, more years of benefits through longer lifespans, and better and more expensive health care. In 1960, a couple where each spouse earned constant “average” wages over a career beginning at age 22 and retired on his or her 65th birthday would receive about $300,000 in health and retirement benefits; today, that figure is over $1 million in health and retirement benefits. The expected benefits for couples turning 65 in 2050 - age 30 today - are scheduled to rise under current law to almost $2 million.
BobK
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Re: Retirement bonds

Post by willthrill81 » Sat May 12, 2018 4:43 pm

bobcat2 wrote:
Sat May 12, 2018 2:58 pm
willthrill81 wrote:
Sat May 12, 2018 2:12 pm

Per my above analysis, ignoring SS adds at most $600k to my needed portfolio at my planned retirement age, probably more like $400k. ...

I don't see how you're getting $900k needed to ignore Medicare.

Code: Select all

Social Security & Medicare Lifetime Benefits & Taxes

TABLE 15
Expected Present Value of Lifetime Social Security and Medicare Benefits

Married couple with two average earners 

Year cohort                  First year Social     Lifetime SS Benefit    Lifetime Medicare Benefit
turns age 65                Security benefit
 
2045                              50,100                 898,000                   871,000  

Source: C. Eugene Steuerle and Caleb Quakenbush, Urban Institute  (2015 dollars)
So as I said 'about $900,000' to ignore Medicare.

For a married couple with one high earner and one average earner turning 65 in 2045 the present value of their SS benefit is $1,071,000 - not $400,000. See Table 16.

data source: Social Security & Medicare Lifetime Benefits & Taxes - Urban Institute
Link -https://www.urban.org/sites/default/fil ... -Taxes.pdf

What reputable external source do you rely on for your data on value of SS & Medicare benefits in the future?

From the beginning of the Urban Institute report.
Benefits from government retirement programs - Social Security and Medicare - vary over time, but the trend has been toward higher lifetime benefits for each successive cohort. Expansion derives mainly from increases in real annual benefits, more years of benefits through longer lifespans, and better and more expensive health care. In 1960, a couple where each spouse earned constant “average” wages over a career beginning at age 22 and retired on his or her 65th birthday would receive about $300,000 in health and retirement benefits; today, that figure is over $1 million in health and retirement benefits. The expected benefits for couples turning 65 in 2050 - age 30 today - are scheduled to rise under current law to almost $2 million.
BobK
First of all, the numbers you're quoting are lifetime costs, not current values. $1.8 million is not needed at the point of retirement in order to ignore SS and Medicare costs. It would be akin to saying "It costs an average of $250k to raise a child from birth to age 18, so you'd better get that $250k before every kid that you get!" In reality, people pay for those costs as they go, and the same is true of both SS and Medicare. What is the net present value of SS and Medicare benefits? That's the real question.

Second, you're ignoring why I originally said that I don't account for SS in my own planning: the period between my planned retirement and my planned age to begin SS benefits is 15 years. By ignoring SS, it increases by needed portfolio by my own calculations by, at most, $600k and likely the $400k I mentioned. I'll not repeat the calculation as it is above.

Third, I fully expect some version of both SS and Medicare to be around for the rest of my lifetime at the least, so I feel comfortable with possibly underestimating the costs for doing without.

By the way, I estimate my SS benefits from the SSA website.
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Re: Retirement bonds

Post by bobcat2 » Sat May 12, 2018 6:26 pm

Hi willthrill81,

$1.8 million is what you are short in lifetime benefits at retirement. So if want to know how much you need at retirement - the answer is an additional $1.8 million if you don't count SS & Medicare. These are discounted costs. The actual costs spread over average life expectancies at retirement are considerably higher. Notice that the analysts used a 2% real discount rate. The present values of the calculations would be considerably higher if the prevailing real interest rates of roughly 1% for the last several years would have been used.

How did you estimate the value of Medicare benefits in the future?

BobK
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Re: Retirement bonds

Post by willthrill81 » Sat May 12, 2018 9:17 pm

bobcat2 wrote:
Sat May 12, 2018 6:26 pm
$1.8 million is what you are short in lifetime benefits at retirement. So if want to know how much you need at retirement - the answer is an additional $1.8 million if you don't count SS & Medicare. These are discounted costs. The actual costs spread over average life expectancies at retirement are considerably higher. Notice that the analysts used a 2% real discount rate. The present values of the calculations would be considerably higher if the prevailing real interest rates of roughly 1% for the last several years would have been used.
Okay, I see that they did indeed discount that sum to the future, though the discount rate is quite small. However, I reiterate that $900k at age 65 is not the same that of someone retiring at age 55. Obviously, a significantly smaller sum than $900k would be needed at age 55, about $550k if a 5% real return is achieved over that decade, $670k if a 3% real return is achieved. Since I won't be starting SS benefits until age 70, that means that I'll have a 15 year gap. If I get a 5% real return over that period, then I need just $435k, which is close to what I initially said.
bobcat2 wrote:
Sat May 12, 2018 6:26 pm
How did you estimate the value of Medicare benefits in the future?
I just did a back-of-the-envelope calculation involving health insurance costs at my planned retirement age, knowing that they'll rise from there as we age.

Yet again, I remind you that my 'conservative' estimate that sparked this conversation was only in reference to my ignoring SS for the purposes of my planned retirement age of 55 because it simplifies my calculations and doesn't make what I consider to be a big difference in my needed portfolio size. It had nothing to do with SS or Medicare 'going away', but I believe that we would be fine if neither were around. Recall that one of the options we are open to involves becoming ex-pats in order to dramatically reduce our healthcare costs. I'm honestly surprised that most retirees and would-be retirees seem to be so diametrically opposed to this option.

This thread is getting derailed, so I won't continue this conversation here.
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Re: Retirement bonds

Post by desafinado » Sat May 12, 2018 9:28 pm

I am all in favor of better living through financial engineering. What incentives currently exist keeping it from being the reality?

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Re: Retirement bonds

Post by willthrill81 » Sat May 12, 2018 9:30 pm

desafinado wrote:
Sat May 12, 2018 9:28 pm
I am all in favor of better living through financial engineering. What incentives currently exist keeping it from being the reality?
You mean in the U.S.? Such a discussion would get political quickly and, as such, is forbidden to talk about.
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

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Re: Retirement bonds

Post by desafinado » Sat May 12, 2018 9:32 pm

willthrill81 wrote:
Sat May 12, 2018 9:30 pm
desafinado wrote:
Sat May 12, 2018 9:28 pm
I am all in favor of better living through financial engineering. What incentives currently exist keeping it from being the reality?
You mean in the U.S.? Such a discussion would get political quickly and, as such, is forbidden to talk about.
I don't really mean it in a political way. I'm confused by who holds what risks with these proposed retirement bonds versus the status quo. It looks like primarily it amortizes longevity risk similar to annuities? The economics are beyond me.

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Re: Retirement bonds

Post by willthrill81 » Sat May 12, 2018 9:39 pm

desafinado wrote:
Sat May 12, 2018 9:32 pm
willthrill81 wrote:
Sat May 12, 2018 9:30 pm
desafinado wrote:
Sat May 12, 2018 9:28 pm
I am all in favor of better living through financial engineering. What incentives currently exist keeping it from being the reality?
You mean in the U.S.? Such a discussion would get political quickly and, as such, is forbidden to talk about.
I don't really mean it in a political way. I'm confused by who holds what risks with these proposed retirement bonds versus the status quo. It looks like primarily it amortizes longevity risk similar to annuities? The economics are beyond me.
They might be called 'bonds', but they would function very similarly to certain period annuities. As such, I don't really see much value in the proposal. As it stands now, people can save their money and buy a certain period annuity (or, preferable to most, a lifetime annuity) using however much of their savings they desire. One big advantage of this approach over the 'retirement bond' proposal is that people aren't locked into bond returns for decades. History says that when it comes to preserving your purchasing power over multiple decades (i.e. 20 years or longer), stocks have been almost universally safer than bonds (ala "Stocks for the Long Run" by Jeremy Siegel).
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Re: Retirement bonds

Post by AlohaJoe » Sat May 12, 2018 10:15 pm

willthrill81 wrote:
Sat May 12, 2018 9:39 pm
They might be called 'bonds', but they would function very similarly to certain period annuities. As such, I don't really see much value in the proposal.
The short op-ed (which let's face it, is just a fancy word for "blog post" and has no chance of coming to fruition in France) obviously doesn't go into a lot of detail. However Merton & Muralidhar have been flogging this idea elsewhere for a while -- they wrote a similar op-ed about how this idea would fit for UK pension reform -- so we can look at those other writings for more details.

(Here's my attempts to answer your point based on my understanding of their position.)

From the consumer perspective on the surface it is similar to a period annuity. They even say that in the French op-ed. But it is quite different from a period annuity.
  • Being provided by the government, these would be default-free. Annuities are not default-free and we often see fear of insurance company default as a factor for why people are wary of them.
  • Merton & Muralidhar expect these to be liquid, easy traded, and low-cost. All that is different from an annuity. These bonds could be passed on to an heir or sold back to the market in order to fund an emergency expense.
  • Because it is a bond, it could be incorporated in target date portfolios and other mutual funds & ETFs easily.
  • For the government, selling these bonds offer an efficient way to fund things like infrastructure -- since they have a steady stream of income (for 30-40 years) before needing to pay out.
  • Governments are good at "completing markets". That is, filling voids that markets aren't filling. TIPS and ultra-long bonds (i.e. Japan's 40-year bonds that they started selling in 2007) provide hedging against inflation and long-term obligations (like pensions) that the market wasn't filling.
  • These would be indexed to...uh....something. In the French op-ed they imply that indexing to inflation would be a possibility -- but also might not happen. In other places they've suggested that these bonds be indexed to aggregate per capita consumption -- which is even better than being indexed to inflation! Looking at the direction both pensions and annuities have gone, it seems that private markets are losing their willingness to index to inflation or anything else. In the end, this ties back to the earlier point about governments completing markets: if markets don't provide an indexed period certain annuity, then governments should (according to the authors).
  • By selling bonds that are tied to aggregate per capital consumption, that means these bonds are hedged by VAT revenues. Private companies don't have that hedge. Because the bonds have a natural hedge, they are less-risky that bonds tied to inflation or GDP. Less risk in bonds means lower costs.
  • Finally, Merton always makes the point that -- at the end of the day -- if retirements don't go well, then governments around the world will end up bailing people out anyway. So better to be involved and help design good outcomes via good products from the outset.

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Re: Retirement bonds

Post by bobcat2 » Sat May 12, 2018 10:24 pm

SS & Medicare benefits are very valuable for retirees. Current combined benefits are about $1 million for many couples. By 2050 the value of of SS & Medicare benefits in 2015 dollars will be about $2 million for many couples. To ignore these benefits or value them at about $400,000 is wildly inaccurate.

Most people underestimate the value of their Medicare benefits. Medicare benefits are estimated to be $479,000 for couples turning 65 in 2020 (in terms of 2015 dollars). By 2050 the Medicare benefits for couples turning 65 that year is estimated to be $965,000 (in terms of 2015 dollars). This means that by 2050 the value of their Medicare benefits will be greater than their SS benefits for most Americans. Actually for Americans in the bottom half of the income distribution, their Medicare benefits will exceed their SS benefits by 2030.

While SS benefits grow with inflation and increased longevity, medical expenses are expected to grow significantly faster than overall inflation. This is because of both quality improvements in medical care and the large economic rents that exist in the health industry.

If SS benefits were to cut by 20% in the future and Medicare benefits cut more (the Medicare program is in much worse financial shape than SS), most Americans retiring 20-40 years from now will be worse off than those retiring over the last 40 years. Most households simply can't make up cuts in these programs in the several hundred thousands of dollars.

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Re: Retirement bonds

Post by bobcat2 » Sat May 12, 2018 10:34 pm

AlohaJoe wrote:
Sat May 12, 2018 10:15 pm
  • Being provided by the government, these would be default-free. Annuities are not default-free and we often see fear of insurance company default as a factor for why people are wary of them.
  • Merton & Muralidhar expect these to be liquid, easy traded, and low-cost. All that is different from an annuity. These bonds could be passed on to an heir or sold back to the market in order to fund an emergency expense.
  • Because it is a bond, it could be incorporated in target date portfolios and other mutual funds & ETFs easily.
  • For the government, selling these bonds offer an efficient way to fund things like infrastructure -- since they have a steady stream of income (for 30-40 years) before needing to pay out.
  • Governments are good at "completing markets". That is, filling voids that markets aren't filling. TIPS and ultra-long bonds (i.e. Japan's 40-year bonds that they started selling in 2007) provide hedging against inflation and long-term obligations (like pensions) that the market wasn't filling.
  • These would be indexed to...uh....something. In the French op-ed they imply that indexing to inflation would be a possibility -- but also might not happen. In other places they've suggested that these bonds be indexed to aggregate per capita consumption -- which is even better than being indexed to inflation! Looking at the direction both pensions and annuities have gone, it seems that private markets are losing their willingness to index to inflation or anything else. In the end, this ties back to the earlier point about governments completing markets: if markets don't provide an indexed period certain annuity, then governments should (according to the authors).
  • By selling bonds that are tied to aggregate per capital consumption, that means these bonds are hedged by VAT revenues. Private companies don't have that hedge. Because the bonds have a natural hedge, they are less-risky that bonds tied to inflation or GDP. Less risk in bonds means lower costs.
  • Finally, Merton always makes the point that -- at the end of the day -- if retirements don't go well, then governments around the world will end up bailing people out anyway. So better to be involved and help design good outcomes via good products from the outset.
:sharebeer

One of the very nice aspects of these zero principal bonds is that because of their low price, median income households and households of the working near poor can purchase them at regular two week intervals in their DC retirement savings plans. These same households could not possibly purchase zero coupon TIPS on a regular basis in their DC plan. These would be similar to I-bonds without the tax advantage and targeted for a 20 year span of retirement spending. You could use these along with SS for the safe income portion of your planned retirement income.

And yes this is a financial engineering answer to solving a portion of the global problem of funding retirement.

BobK
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Re: Retirement bonds

Post by willthrill81 » Sat May 12, 2018 11:31 pm

AlohaJoe wrote:
Sat May 12, 2018 10:15 pm
willthrill81 wrote:
Sat May 12, 2018 9:39 pm
They might be called 'bonds', but they would function very similarly to certain period annuities. As such, I don't really see much value in the proposal.
The short op-ed (which let's face it, is just a fancy word for "blog post" and has no chance of coming to fruition in France) obviously doesn't go into a lot of detail. However Merton & Muralidhar have been flogging this idea elsewhere for a while -- they wrote a similar op-ed about how this idea would fit for UK pension reform -- so we can look at those other writings for more details.

(Here's my attempts to answer your point based on my understanding of their position.)

From the consumer perspective on the surface it is similar to a period annuity. They even say that in the French op-ed. But it is quite different from a period annuity.
  • Being provided by the government, these would be default-free. Annuities are not default-free and we often see fear of insurance company default as a factor for why people are wary of them.
  • Merton & Muralidhar expect these to be liquid, easy traded, and low-cost. All that is different from an annuity. These bonds could be passed on to an heir or sold back to the market in order to fund an emergency expense.
  • Because it is a bond, it could be incorporated in target date portfolios and other mutual funds & ETFs easily.
  • For the government, selling these bonds offer an efficient way to fund things like infrastructure -- since they have a steady stream of income (for 30-40 years) before needing to pay out.
  • Governments are good at "completing markets". That is, filling voids that markets aren't filling. TIPS and ultra-long bonds (i.e. Japan's 40-year bonds that they started selling in 2007) provide hedging against inflation and long-term obligations (like pensions) that the market wasn't filling.
  • These would be indexed to...uh....something. In the French op-ed they imply that indexing to inflation would be a possibility -- but also might not happen. In other places they've suggested that these bonds be indexed to aggregate per capita consumption -- which is even better than being indexed to inflation! Looking at the direction both pensions and annuities have gone, it seems that private markets are losing their willingness to index to inflation or anything else. In the end, this ties back to the earlier point about governments completing markets: if markets don't provide an indexed period certain annuity, then governments should (according to the authors).
  • By selling bonds that are tied to aggregate per capital consumption, that means these bonds are hedged by VAT revenues. Private companies don't have that hedge. Because the bonds have a natural hedge, they are less-risky that bonds tied to inflation or GDP. Less risk in bonds means lower costs.
  • Finally, Merton always makes the point that -- at the end of the day -- if retirements don't go well, then governments around the world will end up bailing people out anyway. So better to be involved and help design good outcomes via good products from the outset.
Thanks for the summarized view of the differences. They are more different than I originally thought, but the low returns, for low they will surely be, don't interest me personally.
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Re: Retirement bonds

Post by willthrill81 » Sat May 12, 2018 11:34 pm

bobcat2 wrote:
Sat May 12, 2018 10:24 pm
To ignore these benefits or value them at about $400,000 is wildly inaccurate.
I find it interesting that you say this without attempting to refute any of the math that I provided. As I said, $435k at age 55 with 5% annual returns for 15 years would be approximately equal to my anticipated SS benefits according to the SSA. How is that "wildly inaccurate?"

Michael Kitces doesn't think so. He had an excellent post on the net present value of SS benefits back in 2015. Here's a relevant quote and graph from it.
At a maximum Social Security benefit of $2,642/month (for those who maxed out the Social Security wage base for 35 years), the value of Social Security amounts to about $572,000 for men and $683,000 for women!
Image
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Re: Retirement bonds

Post by bobcat2 » Sun May 13, 2018 8:30 am

Hi willthrill81,
I'm assuming you are partnered, and probably married, so why aren't you including your partner's SS benefit in your retirement calculations?

Kitces calculations are for people retiring presently. In 2045 or 2050 Social Security benefits overall will be higher. For example, the present value of SS benefits in 2050 for a couple where one is a high earner and the other is an average earner is estimated to be $1,147,000 in 2015 dollars. The high earner is not a maximum earner BTW. See the Urban Institute paper. So for two maximum earners waiting to age 70 the benefit would be significantly more than $1,147,000.

You are incorrectly calculating the value of your SS benefits. NPV comes into play in deciding when to take SS benefits, not the value of the benefit. At age 70 SS has a present value, and without SS your retirement resources are reduced by that amount. Assuming you are the high earner that is a joint last to day inflation-indexed life annuity with a PV significantly higher than $400,000. Your significant other's benefit also needs to be included in the PV of your SS benefits. In 2045 the value of SS & Medicare benefits will be in the range of $1.8 to $2 million for many couples. Even if that is reduced by about 20%, we are still talking nearly $1.5 million, which is not pocket change. Note - These values are in 2015 dollars.

In the case you are the only breadwinner in the household the value of your SS and Medicare benefits in 2045 would be over $1.8 million assuming you are earning about $76,000 in today's dollars.

BobK
Last edited by bobcat2 on Sun May 13, 2018 8:44 am, edited 2 times in total.
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Re: Retirement bonds

Post by abuss368 » Sun May 13, 2018 8:41 am

It is an interesting concept. I am in favor of any strategy that encourages investment and retirement planning if it makes sense. I am curious what happens it the retiree passes away and was receiving payments. Hopefully a better retirement system and structure will evolve out of these strategies including the failed myIRA.

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Re: Retirement bonds

Post by alex_686 » Sun May 13, 2018 9:01 am

I will throw out my 2 cents.

I tend to be against owning individual bonds. Building a bond ladder is trickier than most people think. One than has to handle the reinvestment of coupons, etc.

What we have here is 20 zero coupon inflation protected bonds bundled into a single security. This is very attractive.

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Re: Retirement bonds

Post by bobcat2 » Fri May 18, 2018 10:49 am

With these real bonds people can plan at least a portion of their retirement finances without having to make complicated calculations, such as forecasting portfolio expected returns, or resorting to using a retirement calculator, or hiring a financial advisor. Here's an example. If an investor wants $10,000 per year in safe income for 20 years of retirement she simply needs to buy 2,000 retirement bonds over time before retirement - $10,000/($5 annual coupon). No additional calculations are necessary. This is another nice feature of these bonds that I don't believe has previously been mentioned on this thread.

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Re: Retirement bonds

Post by willthrill81 » Thu May 24, 2018 12:31 am

Since there was some discussion regarding how to value Social Security in this thread, I thought it worthwhile to note that ERN recently calculated it in a different way: how much does SS improve your withdrawal rate in retirement?
Social Security, to be sure, can be a great addition to the early retirement planning. As I showed in my Case Study Series, many volunteers ended up with safe withdrawal rates North of 4%. Thanks to Social Security and pensions! For “older early retirees” Social Security can make a big difference. If you expect benefits worth $20k per year and have a $1,000,000 initial portfolio then the fail-safe withdrawal rates for 1929 and 1966 would have increased by this much, depending on when benefits start:

Benefits start after 20 years: +0.45%
25 Years: +0.29%
30 Years: +0.20%
35 Years: +0.14%
40 Years: +0.08% (all figures calculated with the Google Sheet developed in Part 7)
https://earlyretirementnow.com/2018/05/ ... ity-myths/

As expected, the further one is away from receiving SS benefits, the smaller the impact on one's withdrawal rate.

Also, the improvement in the withdrawal rates was more for these cohorts because their portfolio's performance started out very poor. Under more normal situations, the improvement would be even less.
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Re: Retirement bonds

Post by bobcat2 » Sat Jun 09, 2018 4:13 pm

An interesting article in the Financial Times about "retirement bonds". An odd thing about this article is in discussing the bonds it fails to mention Arun Muralidhar, the person who originated the idea of these bonds and has since been championing the idea along with Merton.

From the article -
Mr Martellini said the problem with conventional bonds was that bond portfolios held by investors were highly unsafe relative to their needs in retirement.Retirement bonds, on the other hand, were by construction the "true safe" asset for investors investing for retirement, he said. The products are broadly similar to annuities but without the problems of irreversibility, lack of transparency and high cost, that often deter people from buying them, according to Mr Martellini.

The professors are in the process of setting up a pan-European working group to explore the concept, including economics and policy experts. They are also in meetings with politicians in France, where the retirement landscape is currently undergoing reform.
Link to article - https://www.ftadviser.com/pensions/201 ... es/?page=1

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Re: Retirement bonds

Post by gmaynardkrebs » Sun Jun 10, 2018 7:37 am

bobcat2 wrote:
Sat Jun 09, 2018 4:13 pm
An interesting article in the Financial Times about "retirement bonds". An odd thing about this article is in discussing the bonds it fails to mention Arun Muralidhar, the person who originated the idea of these bonds and has since been championing the idea along with Merton.

From the article -
Mr Martellini said the problem with conventional bonds was that bond portfolios held by investors were highly unsafe relative to their needs in retirement.Retirement bonds, on the other hand, were by construction the "true safe" asset for investors investing for retirement, he said. The products are broadly similar to annuities but without the problems of irreversibility, lack of transparency and high cost, that often deter people from buying them, according to Mr Martellini.

The professors are in the process of setting up a pan-European working group to explore the concept, including economics and policy experts. They are also in meetings with politicians in France, where the retirement landscape is currently undergoing reform.
Link to article - https://www.ftadviser.com/pensions/201 ... es/?page=1

BobK
I'd be more enthusiastic if this were a means to replace (or at least supplement) the current 401K/IRA system, which strikes me as too Wall Street-dominated, by a privately managed annuity program, which would, hopefully, be better suited to the needs of future retirees. However, to the extent this is a a government subsidized program, it seems to me that I'd rather see governments in Europe and the USA shoring up the existing government annuity programs, eg. SSA, the French retirement program), which provide pretty sound annuity programs rather efficiently. That's not to say this is not a good idea given the current state of the retirement programs both public and private around the world, but I would like to see what problems it addresses that are not addressed by the current government retirement programs. However, it's not clear to me that there is a subsidy, which raises its own set of issues. Perhaps it is being "paid for" by lower borrowing costs, or by hoped for benefits of infrastructure investment. But, if the latter is the case, why not invest in infrastructure using the traditional tax funded basis, instead of indirect subsides, which tend to be off the the balance sheet, and hidden from public scrutiny of the true cost.

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Re: Retirement bonds

Post by bobcat2 » Sun Jun 10, 2018 9:40 am

gmaynardkrebs wrote:
Sun Jun 10, 2018 7:37 am
I'd be more enthusiastic if this were a means to replace (or at least supplement) the current 401K/IRA system, which strikes me as too Wall Street-dominated, by a privately managed annuity program, which would, hopefully, be better suited to the needs of future retirees. However, to the extent this is a a government subsidized program, it seems to me that I'd rather see governments in Europe and the USA shoring up the existing government annuity programs, eg. SSA, the French retirement program), which provide pretty sound annuity programs rather efficiently. That's not to say this is not a good idea given the current state of the retirement programs both public and private around the world, but I would like to see what problems it addresses that are not addressed by the current government retirement programs. However, it's not clear to me that there is a subsidy, which raises its own set of issues. Perhaps it is being "paid for" by lower borrowing costs, or by hoped for benefits of infrastructure investment. But, if the latter is the case, why not invest in infrastructure using the traditional tax funded basis, instead of indirect subsides, which tend to be off the the balance sheet, and hidden from public scrutiny of the true cost.
I believe the intent here is that these new government bonds would be offered as an investment option in defined contribution retirement plans such as 401k plans and, since they are simply government bonds, could also be purchased in IRAs.

It's not a government subsidy, it's merely the government offering a new type of bond. Much like in 1997 when the Treasury first offered real bonds (TIPS) in addition to traditional nominal Treasury bonds. These are deferred 20 year coupon-only government bonds that are indexed to inflation after the first year's payment. What's new about these bonds is that they can be purchased on a deferred basis of as much as several decades and they are coupon-only (aka zero principal). Two other unusual features are the small size of the annual coupon ($5) and that they are indexed to inflation after the first year's coupon. You could also think of this bond as a micro 20 year annuity.

These bonds could be combined with a longevity annuity that kicks in at age 85, and the income from that annuity would replace the income from these bonds after the first 20 years of retirement. This combined flow of income over all of a person's retirement years, in addition to Social Security, would provide the safe portion of retirement income. The remaining more risky portion of retirement income could come from portfolio withdrawals.

You could think of these retirement bonds as replacing TIPS ladders for safe retirement income. TIPS ladders are a more complicated and much less affordable way to provide the same level of safe retirement income that these new bonds would provide. Think of the head spinning spreadsheet calculations #Cruncher provides to build TIPS ladders. And, as far as I can tell, these calculations are just for buying the TIPS at one point in time - not for purchasing the laddered retirement income in small amounts monthly or semi-monthly over decades as could be done with these bonds.

BobK
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Re: Retirement bonds

Post by Horton » Sun Jun 10, 2018 2:34 pm

Compared to a TIPS ladder, I definitely agree that these bonds would provide a simpler way to purchase an inflation-adjusted stream of income. It would probably also be easier than using a TIPS fund to develop a liability matching portfolio.

There are a couple challenges that would still exist though:
  • those in the accumulation phase would have to estimate their inflation-adjusted income at retirement. This probably isn’t a significant issue because as you get closer to retirement, you should have a better sense for how much you need and how much longer you need to work to reach this level.
  • I’m not sure an inflation-adjusted DIA exists?
I suppose you could start purchasing more retirement bonds as you approach say age 85 and extend the ladder out to age 105.

The problem is that you would be self-insuring longevity risk, which is better pooled.

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