Those painful averages

We have all heard the story of the six foot tall actuary who drowned crossing a river with an average depth of five feet six inches.

Averages compounding in your favour can be wonderful. Compounding against you can be totally disastrous – and you do not have to be injured to suffer that fate.

Below are two charts. They are courtesy of Manulife Financial. Admittedly, the investment returns are heavily loaded towards the negative at the beginning, but that is ok. It happens. The concept is valid. If you represent an injured client he must make a lump sum of cash last for the remainder of his life. If you are nearing retirement you must make your retirement funds last for the remainder of your life. It is important to recognize that while an 8% average (with widely fluctuating annual rates) while accumulating money will give the same as a steady 8%, that is not so when withdrawing money. An 8% average when you are withdrawing money gives you a meaningless amount. It all depends on the seesaw of the value of your units as the charts show.

The answer is a life annuity. It guarantees that you will have money for as long as you are alive, and it guarantees the injured plaintiff that he or she will have money for future care and income replacement as long as they are alive.