OPTIMAL TIMING OF THE ANNUITY PURCHASE: COMBINED STOCHASTIC CONTROL AND OPTIMAL STOPPING PROBLEM

The paper examines the optimal annuitization time and the optimal consumption/investment strategies for a retired individual subject to a constant force of mortality in an all-or-nothing framework. We allow for a different utility of consumption before and after annuitization. For a general family of preferences we characterize the value function and the optimal controls of the resulting combined stochastic control and optimal stopping problem. Assuming power utility functions we obtain explicit solutions. We show that if the individual evaluates the consumption flow and the annuity payments stream in the same way, then, depending on the parameters of the economy, the annuity is purchased at retirement or never. In the case when the individual is more risk averse in the annuity assessment, it is optimal to defer the annuitization until her wealth reaches a threshold, and such threshold depends on the parameters of the economy.