Optimal Gradual Annuitization: Quantifying the Costs of Switching to Annuities
AbstractWe compute the optimal dynamic annuitization and asset allocation policy for a retiree with Epstein/Zin preferences, uncertain investment horizon, potential bequest motives, and pre-existing pension income. In our setting the retiree can decide each year how much he consumes and how much he invests in stocks, bonds, and life annuities, while the prior literature mostly considered restricted so-called deterministic or stochastic switching strategies. We show that postponing the annuity purchase is no longer optimal in the gradual annuitization case since investors are able to attain the optimal mix between liquid assets (stocks and bonds) and illiquid life-annuities each year. In order to assess potential utility losses, we benchmark various restricted annuitization strategies against the unrestricted gradual annuitization strategy.
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Bibliographic InfoPaper provided by Department of Finance, Goethe University Frankfurt am Main in its series Working Paper Series: Finance and Accounting with number 174.
Date of creation: 2008
Date of revision:
Find related papers by JEL classification:
- D91 - Microeconomics - - Intertemporal Choice and Growth - - - Intertemporal Consumer Choice; Life Cycle Models and Saving
- G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
- G22 - Financial Economics - - Financial Institutions and Services - - - Insurance; Insurance Companies
- H55 - Public Economics - - National Government Expenditures and Related Policies - - - Social Security and Public Pensions
- J26 - Labor and Demographic Economics - - Demand and Supply of Labor - - - Retirement; Retirement Policies
This paper has been announced in the following NEP Reports:
- NEP-ALL-2007-04-09 (All new papers)
- NEP-PBE-2007-04-09 (Public Economics)
- NEP-UPT-2007-04-09 (Utility Models & Prospect Theory)
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