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Retirees used to be able to count on getting steady income from several sources after they quit working. Now, it's increasingly up to you to figure out how to finance your own retirement. And although the number of financial products designed to help you do exactly that is constantly on the rise, that only makes figuring out what your best options are that much more complicated.
The good old days
In the past, workers had the ability to build what some call a three-legged stool to support their financial needs in retirement. Many employers provided monthly pensions for their workers, and Social Security acted as a supplement to retirees' monthly income. Workers could use private savings to fill any gap between the income from those two sources and their needs, or to cover unexpected emergencies.
Now, though, pensions have almost disappeared for many workers, and Social Security's on shaky ground. To help savers take control of their own retirement, financial companies have come out with a number of investment vehicles, including annuities, payout funds, and target retirement funds. But the question you have to ask is how you can best use these vehicles to reach your own goals -- and how they fit in with your existing investment strategy.
Dealing with annuities
Annuities come with an attractive promise: guaranteed income as long as you live. At their simplest level, immediate annuities let you trade a fixed sum for a stream of monthly payments that last your entire lifetime.
Beyond that simple level, though, annuities get complicated in a hurry. Fixed annuities, which are bread-and-butter moneymakers for top sellers New York Life, Allianz, Aviva (NYSE: AV ) , and AIG (NYSE: AIG ) subsidiary Western National Life, resemble CDs by offering fixed interest rates for certain periods of time. Variable annuities, on the other hand, more closely resemble mutual funds, offering exposure to a wide variety of different asset classes; Prudential Financial (NYSE: PRU ) , MetLife (NYSE: MET ) , and AIG have been among the top sellers of variable annuities recently.
Many annuities also come with optional features, such as guarantees of minimum death benefits, monthly income, or withdrawals, as well as principal protection. Those features each come with an annual cost, though, that can push expense ratios well above levels for mutual funds and other non-insurance-based investments.
Because of the costs involved, some investors prefer to use payout funds. These investments are designed to make regular, predictable payments; the formulas each fund uses depends on its particular structure. In many cases, they're cheaper than annuities.
But what these payout funds don't provide is a guarantee. If your investment results aren't as good as you had hoped, then you may run out of money faster than you had expected.
Similar concerns have plagued target retirement funds. The idea behind these investments is simple: Pick a fund based on your planned retirement date, and the fund will automatically shift its investment objective as you get closer to retirement, becoming more conservative over the years. Eventually, when you retire, some funds shift to investments that produce retirement income.
What surprised many target fund shareholders, though, was how much money these funds kept in stocks, even for older investors. Many target funds suffered big losses in 2008, even for those within a year or two of retiring. Several fund companies, including Charles Schwab (NYSE: SCHW ) , lowered stock allocations after 2008. But others, such as T. Rowe Price (Nasdaq: TROW ) and Principal Financial (NYSE: PFG ) , have responded with a broader range of investments, including commodities and real estate, in their target funds. The net result is that investors have to pay close attention to how their money's being invested.
Do it yourself
With all these potential surprises, you have to keep an eye on your money. The best solution for savvy investors is to keep a tight grip on your retirement assets rather than giving up control to asset managers. Annuities are very useful for countering longevity risk, but setting up your own portfolio of ETFs and individual stocks designed to provide consistent income gives you maximum flexibility to match income yield with desired risk level.
The good old days may be long gone, but you can still have a secure retirement. With the right mix of annuities and other investments, you can take control of your retirement income to get the results you want.