Blending life and living annuities improves retirement income outcomes
Financial advisers and planners are increasingly turning to blended annuities to solve the complex challenges their clients face in retirement. These annuities assist in smoothing incomes through lengthier retirements, now often exceeding 35 years in duration.
Defining annuitisation success
“In order to have a meaningful conversation about annuities … we need to have a common understanding of what we are trying to achieve, and agree a common definition of success,” said Allan Gray Head of Product Development, Sean Duddy. He used his 45-minute slot at The Allan Gray Edge 2026 webinar to explain and position traditional guaranteed (life) and living annuity solutions alongside the emerging, and increasingly popular, blended annuity.
“The primary goal [in annuity design] is to achieve an appropriate level of income that can keep up with inflation, and can do so for the rest of your client’s life,” Duddy said. He singled out leaving a financial legacy for beneficiaries as an important secondary consideration, before detailing the four key attributes that your clients can use to assess an annuity’s suitability. These include income flexibility; leaving a financial legacy; providing an income for life; and offering inflation protection.
The audience was treated to a detailed explainer of annuity structures in the context of these four attributes, beginning with the popular living annuity. Living annuities, acknowledged as the dominant choice among South Africa’s advised retirees, can meet all four of these attributes provided your client has an adequate capital lump sum at retirement. Being able to select an income of between 2.5% and 17% each year gives full income flexibility, and since you cannot draw down to zero, you will always leave something to beneficiaries.
Setting sustainable drawdown rates
However, “the capital that you leave behind very much depends on how much you draw down during your retirement (the drawdown rate); how long that retirement is (the duration); and the investment return that you were able to achieve,” Duddy said. Whether this product provides inflation-adjusted income for life also depends on the aforementioned variables. “The key characteristic of a living annuity is that you have to draw a reasonable level of income in order to be able to sustain it with a high level of success for a long period of time,” he said.
Life or guaranteed annuities paint a different picture. The presenter explained that these products could not offer full income flexibility because the level of income is negotiated with the insurer when purchasing the annuity. Your client can negotiate inflation-based increases, minimum payment periods and spousal benefits up-front; but the starting level of income is locked in from day one. “Your income will never decrease, and will continue for the entirety of the retiree’s life,” Duddy said.
A blended annuity lets financial advisers combine traditional guaranteed and living annuities together in a way that optimises client outcomes. Product providers like Allan Gray allow retirees to allocate a portion of their living annuity capital to a guaranteed annuity, offering a ‘best of both worlds’ blends through which to optimise income requirements, and maximise the capital amount left to beneficiaries. The asset manager boasts more than 120 years of bond, cash and equity return data, enabling extensive back-testing of annuity structures.
Four rules for success
This data facilitates back-testing of retirement outcomes for living annuitants based on variations of drawdown rates and duration alongside plausible asset class returns. According to Duddy, extensive research against this data set surfaced four clear rules. Rule 1, living annuities are long-term investments that must accommodate the number of years in retirement. Rule 2, capital has to be invested to achieve real returns. And rule 3, is that you must manage volatility without detracting from real return.
The presenter shortlisted multi-asset diversification; investing part of the portfolio offshore; and added value through active management as ways to deliver on rule 3. You can think of rules 1-3 as the first challenge in the living annuity space, the second challenge, set out in rule 4, is to manage your drawdown rate. “Even if you get rules 1-3 right there is still a very narrow range of drawdowns that can be sustained over long periods of time with a high chance of success,” Duddy explained, supporting this observation with a fairly busy chart.
The presentation illustrated the prospects of a successful living annuity retirement outcome under variations of the four rules. “For a 90% chance of success, living annuity clients would have to draw down at 4.4% or lower through retirement,” he said. “The range of incomes that these clients can take is very narrow, typically spanning 4-6%.” Allan Gray suggests a blended annuity, or adding an element of guaranteed annuity, can solve for retirees who do not have an adequate sum saved to draw down their living annuity at the optimal rate.
The thin red line of annuitisation
The asset manager’s blended annuity solution partner, Just Retirement SA, provides the guaranteed annuity rates needed for calculations. In this scenario, they provided a fixed rate escalation ‘line’ for males aged 65-years. “For clients that are drawing, or need to draw an income that sits on this line, or somewhere above this red line, we probably need to have a serious conversation about utilising a guaranteed annuity as the standalone solution for their retirement,” Duddy said.
He explained that blended annuities made sense for clients who need an income above what you would normally think is sustainable from a living annuity, but below what you can get from a guaranteed annuity. The first of three case studies considered a male aged 65 who needed a real income starting at R55000 for 30 years, with outcomes illustrated on a R1 million investment basis. Inflation was assumed at 5% throughout. This individual would succeed 60% of the time in a traditional living annuity. Aside from four in 10 outcomes being unsatisfactory, the worst case saw only 20% of the desired income being available to draw.
To improve outcomes, Duddy ran the numbers for a mixture of 25% of the starting retirement capital in a fixed escalation annuity with the remaining 75% in a living annuity, with 65% equities and the remainder in bonds, and 40% offshore exposure. After this change, the client would, at worst, receive R16000 per month for life, guaranteed. In the 25:75 split, the blended annuity pushed the probability of success up to 70%. And by further bumping the split to 50:50, the lowest possible income rose to R32000, with an 80% success probability.
The benefits of a blended annuity
Clients who ‘sit’ somewhere between a sustainable living annuity income level and the guaranteed annuity benefit in two ways from a blended annuity. First, it increases the chance of you sustaining an income that you want for 30 years. Second, it builds in a safety net, or a level of income that you cannot fall below, which is extremely valuable through trying times. There is, however, another important consideration here, being that you need to have an accurate fix on inflation.
The presenter used a 65:35 guaranteed to living annuity ‘start’ to illustrate the impact of 6% inflation versus the 5% assumed. In the higher inflation scenario, the probability of success drops from 90% to around 67%, with the worst potential drawdown still better than if the retiree had opted for the 100% living annuity. At 7%, the probability of success drops again, but the client still benefits from an income floor. “Even with inflation a little bit higher, the blended annuity is still a very good proposition and very helpful to the client,” Duddy said.
Two further case studies were offered in the presentation. The first considered a 65-year old male who was above the guaranteed annuity line, at 6.5% rather than the previous 5.5%. “In this scenario, you are always failing more than you are succeeding; the most important thing for this client is how you manage the scenarios where they fail,” Duddy said. He reiterated that putting in the guaranteed annuity “floor” was extremely valuable.
The third case study considered a retiree already 10, 15 or 20 years into retirement and drawing too much from a living annuity. The client was an 80-year-old male drawing 7%, or R70000 per R1 million invested, and needing that income to last for a further 15 years. Left fully in a living annuity, the probability of success was only around 50%, with many historical outcomes showing the client falling materially short of the required real income over time. A blended solution again improved the picture.
Finding the annuity sweet spot
Allocating 25% of the capital to a guaranteed annuity immediately introduced a floor of around R28000 per year and lifted the probability of success from a coin toss to roughly 80%. A 50:50 split pushed the outcome close to certainty, while raising the income floor to about R56000. As Duddy explained, “the prime position for blending is where a client’s income requirement sits between the living annuity line and the guaranteed annuity line,” a principle that applies both at retirement and well into retirement.
Writer’s thoughts:
Allan Gray’s expert suggests that retirement success if more about managing drawdown risk than chasing returns. Do you agree? And have you been able to plot better client outcomes using a combination of life and living annuities? Please comment below, interact with us on X at @fanews_online or email us your thoughts [email protected].
