The Annuity Duration Puzzle

We test whether life-contingent annuity prices promptly and fully adjust to changes in interest rates; a standard assumption made implicitly or explicitly in a growing annuity literature. Using a unique database consisting of over 3 million U.S. annuity quotes, we find that prices do not move as one might expect. Rather, prices adjust gradually and over a period of several weeks and often months, in response to certain -- and not necessarily riskless -- interest rate changes. In particular, we find that changes to the 30-year U.S. mortgage rate provide a better fit and indication of where annuity payouts are headed, compared to the 10-year swap rate, for example. In addition, we find that the sensitivity to interest rate changes (a.k.a. annuity duration) is asymmetric. Annuity prices react more rapidly and with greater sensitivity to an increase in the relevant interest rate compared to a decrease. Overall our findings are inconsistent with a financial economic view of a life annuity as a risk-free bond-like instrument, plus mortality credits. We believe that we are the first to examine the dynamic microstructure of annuity prices and that our results have implications for a wide swath of existing literature. This includes portfolio choice at retirement, the optimal timing of annuitization, the money's worth ratio, the inference of mortality expectations from insurance prices as well as the valuation of pension liabilities