Is A Tontine In Your Future?

Investment News describes a Tontine as an investment pool that pays dividends only to a pool's surviving members. Tontines were used 350 years ago, but are banned in many countries today because of an unfortunate side effect; tontine members had an incentive to kill one another off in order to increase the dividend payments to remaining members.

And you thought that there was a lot of back-stabbing in your investment club!

Ralph Goldsticker, CFA, in a recent Financial Analysts Journal article (January/February 2007) has suggested that a mutual fund sponsored tontine-like vehicle might provide a cost effective alternative to the traditional annuity. Both are designed to provide retirement income and protect individuals from outliving their resources. By spreading the risk among thousands of individuals, a mutual fund company could lessen the benefit to one individual of killing his or her fellow shareholders.

The new-fangled Tontine Fund would invest in fixed income securities, use an actuary to annually adopt a payout structure appropriate for that group of shareholders, diversify investment risk and provide higher potential payouts - partly because tontines would likely be lower-cost vehicles and also because "payments would be based on average life expectancy rather than the maximum life expectancy.

Although financial product providers often add bells and whistles, usually in an effort to confuse consumers, true innovation in the financial arena doesn't happen often enough. Schwab's invention of the "mutual fund supermarket" was a consumer friendly innovation, for example, as was the more recent creation of ETFs (exchange traded funds).

Hopefully one of the large fund complexes had a chance to read Goldsticker's article. Vanguard, Fidelity, are you listening?

Douglas B. May, CFA, is President of May-Investments, LLC and author of Investment Heresies.

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