Types of Investments

People work hard during their prime years and hope to retire comfortably in their twilight years. Usual ways of attaining this lifetime objective are the following steps, preferably in this order:

• -Cut all the unnecessary expenditures.
• -Pay off debts completely (the sooner the better by prepayments)
• -Continue working while still healthy (to qualify for state pension)
• -Set aside an amount per month for investing purposes.
• -Open a savings account for excess cash (rather than spending it)

A thing to remember is the difference in saving and investing which most people do not differentiate. Savings provide a predictable return called interest while investing involves risk and unpredictable returns. While investing is synonymous with risk-taking, it is not the same as gambling though. It is taking chances with unpredictable outcomes. High-risk high-return is still the norm in investing.

Majority of working people go for pensions which are a form of “forced savings”. The monthly salary deductions go towards a savings fund intended to provide income during retirement. The usual route is to re-invest this “hefty pot” and make into a sort of guaranteed income for life. There are two common types of pensions available with a third product recently introduced into markets:

• -An annuity (a guaranteed lifetime income stream)
• -An income drawdown (referred to as unsecured pension or USP)
• -A “third way” annuity (a hybrid called 3rd way for lack of a term)

An annuity is simply a financial contract patterned after and very similar to an insurance policy. It is designed to provide income stream to the retiree or beneficiary (annuitant) until he or she dies in return for a lumpsum payment. An annuity without a definite end is called a perpetuity – perpetual payments that last forever. Common annuities have fallen out of favor lately due to the low rates (because prevailing interest rates are also low). There is also no control over the funds once an annuity is taken since the insurance company is taking a bet on your life. If the annuitant lives long enough the insurance firm loses money. If the annuitant dies earlier than what statistics anticipate, then the insurance firm wins the “lumpsum pot”. It is a gamble but some buyers of annuities can add a provision that pays out for another 5 or 10 years regardless of the annuitant’s death.

On the other hand, a USP or income drawdown allows a greater flexibility by retaining control of the “lumpsum pot”. Other advantages of USP is that it can participate in future stock market growths as long as it is invested properly and even provides protection against inflation if linked to an index or indices. Its main drawback is it is a bit riskier than an ordinary annuity.

Another option new on the market is called the “third way” which combines the best features of an annuity and a USP. It guarantees a minimum amount but allows room for future increases if pension funds  perform exceedingly well. It is similar to hedging in stock markets and is designed to give you peace of mind. But just like anything else, there is no free lunch and third-way annuities cost a little bit more. A newer form of annuity is “individualized targeting” which tailor-fits the  lower premiums based on residential location and personal factors.

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