Important information: the value of investments and the income from them can go down as well as up, so you may get back less than you invest.
Annuities - which take your retirement savings and pay a guaranteed income in return – often provide a silver lining when returns from other financial products are faltering.
That’s because the rates they offer depend in part on the yield available from assets that pay a fixed level of income, and in particular the bonds issued by the UK government, known as ‘gilts’.
When prices of gilts fall, the yield they offer to anyone buying them rises. When that happens, it tends to be a sign of stress in the economy - the market is demanding a higher return because it fears the income offered by gilts might be eroded in the future by higher rates and inflation. Those same factors can also weigh on the stock market because they tend to hold back growth, and many companies do better when the economy is performing well.
The mechanism for how that works has been explained in more detail here.
By contrast, annuity rates stand to benefit from these negative conditions because, when the yield on gilts rises, annuity providers can use that higher yield to offer better rates on their products.
That’s what we’ve seen over the past few years, and in the early days of 2025 in particular. Gilt prices have been rising. For example, based on current prices, a gilt that matures in 10 years’ time yields 4.74% at the time of writing, compared with 3.8% as recently as mid-September.
What has that done to annuity rates, and what can those looking for annuity income expect in 2025?
Annuity rates now
The chart below shows movements in annuity rates over the past five years. This is based on the rate from an annuity paid to a single person aged 65 who is in good health, with income rising by 3% each year to take some account of inflation.
The sharp rise in annuity rates that began at the start of 2022 is clear. This was caused by rapidly rising inflation as Russia’s war in Ukraine pushed up prices of many household goods. This fed through to higher gilt yields and rates on annuities, taking the rate on our example annuity from about 3.3% to about 5.2%.
The story since then is more complicated. The peak near the end of 2022 reflected the spike in yields that surrounded Liz Truss’ mini-Budget of October of that year. Rates dipped after that as markets settled but began to rise again through 2023. They only dropped at the end of 2023 when markets began to reflect expected cuts to interest rates as inflation came back to more normal levels. At that stage our annuity example was paying 4.7%.
Annuity rates moved sideways through 2024 as markets waited for confirmation of interest rate cuts that would ease gilt yields. But they have recently begun to climb higher as inflation has proved more persistent than expected. The rate on our annuity is currently around 5.3% - higher than at any point in the past five years.
Will annuity rates rise or fall?
It’s possible to form a view of where interest rates - and therefore gilt yields and annuity rates - will head in the future based on bond prices today. Right now, the bond market is suggesting that the Bank Rate will fall from its current level of 4.75% to between 4% and 4.25% over the next 12 months.
This suggests annuity rates could move lower as well in 2025, although they should still remain high compared to recent history.
But it’s worth remembering that annuity rates are ultimately set by the companies that provide them - a point made by Stephen Lowe, director at the retirement and annuity specialist Just Group.
He said: “The correlation between annuity returns and gilt rates is not straightforward – you can’t assume an x% rise or fall in gilt returns will lead to an y% rise or fall in annuity rates. Like all investors, annuity providers always look to the future and may be pricing in rate changes in advance or changing their rates according to their immediate appetite to drive business.
“This reinforces the importance of annuity buyers shopping around for the best deal they can. It is very unlikely their own pension provider will offer the best rate in a market where a number of players are constantly competing for business.”
Time for advice?
Knowing how to best derive an income in retirement in not straightforward. Professional financial advice can help.
The government’s Pension Wise service offers free, impartial guidance to help you understand your options at retirement. You can access the guidance online at www.moneyhelper.org.uk or over the telephone on 0800 011 3797.
Fidelity’s Retirement Service has a team of specialists who can provide you with free guidance to help you with your decisions. Fidelity’s retirement advisers use cash-flow modelling tools to help you plot a sustainable - but optimised - plan for income in retirement. They can also provide advice and help you select products though this will have a charge.
It’s important to feel empowered about retirement. So, if you’ve got a burning question you want to ask? Why not drop us a line.
Click here to ask your question.
Important information - investors should note that the views expressed may no longer be current and may have already been acted upon. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to one of Fidelity’s advisers or an authorised financial adviser of your choice.
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