Pensions - Articles - DC Pension Tracker for Q1 2023

 The results of the new Aon UK DC Pension Tracker update for Q1 2023, reflect the latest changes to the Pensions and Lifetime Savings Association’s (PLSA) newly updated Retirement Living Standards.

 The PLSA issued the new Retirement Living Standards after the Q4 2022 tracker was released. Re-stating for these new standards, meant the Tracker fell significantly compared to the previously released Q4 2022 update. The re-stated Tracker then rose over the fourth quarter (September to December) of 2022.

 Over 2022 as a whole, the Tracker increased quite significantly, suggesting that the expected future living standard in retirement provided by DC savings was higher than at the end of the previous year, even when the impact of higher Retirement Living Standards was included. As usual, this overall increase masks a more complex picture for the individual sample savers.

 PLSA/Loughborough University Retirement Living Standards

 On 12 January 2023, the PLSA released the latest inflation update of the Retirement Living Standards. This showed that the amount required to achieve each of the three standards (minimum, moderate and comfortable) had increased as a result of current inflation levels and changes to the goods and services required for each standard.

 The cost of a minimum lifestyle increased £1,900 or around 18 percent. This was the highest increase in percentage terms and reflects the impact of rising food and fuel prices which make up a larger proportion of the costs included in a minimum lifestyle. Changes also included the amount of food included within the budget, increased in line with nutritional research.

 The amount required for a moderate lifestyle increased by £2,500 (12 percent) and the amount required for a comfortable living standard increased by £3,700 (11 percent).

 To reflect these increases to the living standards, we have re-stated our Q4 2022 Tracker figures. While the amount of income our sample savers are expected to receive in retirement has not changed, the standard of living that income would support has reduced. Overall, this led to a reduction of the Q4 2022 Tracker from 76.9 to 63.5, in line with the updated living standards.

 Over the quarter (September to December 2023), the Tracker rose from 63.5 to 66.9. This rise is primarily driven by increases in expected returns when the savers reach retirement, meaning their fund values are expected to produce a higher income in retirement than at the previous quarter end. If we ignore changes to the future return assumptions, the Tracker would still have risen over the quarter as a result of positive investment returns. However, the increase in the Tracker would have been less pronounced, to 64.1 rather than 66.9.

 This all suggests that once again our sample savers are, on average, expected to have a higher standard of living in retirement than was expected at the end of the previous quarter – albeit lower than if the living standards had not been updated.

 Savers’ Positions

 2022 was a positive year for DC savers despite high inflation and investment market turmoil

 2022 was an unpredictable year for asset owners due to the ongoing geopolitical tensions and the knock-on effects for the economy. UK inflation reached the highest level in decades during the year and the third quarter of 2022 saw historic levels of volatility in bond markets, particularly at the end of September.

 Despite all this, the Tracker shows that DC pension saving proved resilient during 2022. Expected outcomes as measured by the Tracker have increased over the year. This suggests our sample savers are, on average, expected to have a higher standard of living in retirement than at the start of the year – even when the current record levels of inflation are allowed for.

 As ever with the Tracker, this average increase masks a more complex range of outcomes for the individual sample savers.

 All our sample savers are expected to have a higher retirement income at the end of 2022 than they were at the start of the year.

 However, this improvement is primarily driven by an increase in future expected returns on their pensions saving. As we have noted in previous Tracker updates, these higher expected future returns are not guaranteed and may not occur in practice.

 Understandably, many savers may be nervous of relying on unpredictable future returns to make up for a fall in their current fund value - which underscores that the risk to DC pension outcomes is borne by individual savers.

 This improvement in expected retirement income may come as a surprise to many savers checking on their own fund value. Typical investment returns over the year have been poor, particularly for older members who may have had some of their funds invested in bond assets which fell in value over the year. For the majority of pension savers, the change in their existing fund value will be the most immediately obvious outcome from 2022 and they may not realise that future expectations could have actually improved.

 But the value of this expected increase in retirement income has been eroded significantly by the current high level of inflation which means that savers’ income in retirement will buy them less. If we allow for the impact of this, as measured by the changes in the retirement living standards, the younger three of our sample savers are still expected to be better off at the end of the year compared to at its start. On the other hand, our oldest sample saver is expected to have a lower standard of living than at the start of the year, despite an increase in their retirement income in £ terms.

 It is worth noting that the state pension is expected to increase by over 10 percent in April which will help to offset the high levels of inflation for all members. This is particularly true for the oldest of our sample savers for whom the state pension makes up a much higher proportion of the overall retirement income.

 Looking at the relative change over the year, what is striking is how our 50-year-old sample saver has been squeezed by the combination of the actual investment returns achieved and changes to the assumptions. At the start of the year, our 50-year-old sample saver was expected to have the highest income in retirement. Over the course of 2022 this was surpassed by the 40-year-old saver and our youngest 30-year-old saver is now expected to achieve a similar income in retirement. These younger members have suffered smaller falls in their existing (albeit lower) fund values and benefit more from the increase in future expected returns as they are further away from retirement.

 Of course, the Tracker figures do not allow for the impact of actual saver behaviour over the year. The rise in the cost of living may have led to savers opting out or reducing their pension savings which could have a significant effect on their standard of living in retirement. Above all, savers should engage with their DC pension and use the freely available tools to check that they are on track for the standard of living they expect in retirement.
 Movement over the final quarter of the year

 The increase in the Aon UK DC Pension Tracker over the third quarter of 2022 was primarily driven by increases in expected asset returns for the different sample savers after they reached retirement. This was offset to a degree by slightly lower expected returns in the period up to retirement.

 If we consider the effect of investment performance in isolation over the quarter:
 • All the members would be expected to be slightly better-off in retirement due to positive investment returns over the period. Based on this experience alone, each of them is expected to be around £125-£200 per year better off in retirement.
 • In percentage terms, the oldest member benefited the most from the investment returns achieved over the quarter, due to a rebound in the value of their, typically more defensive, bond assets which had fallen in value significantly during Q3.
 Increases to the expected investment returns while the savers are in retirement, led to further rises. However, due to the updates to the living standards, all our savers are now further away from achieving the revised ‘comfortable’ level of retirement living standard than they were in our previous update:
 • The youngest saver had an increase in expected income of around £1,400 p.a.. This was due to an increase in the expected return they are assumed to achieve when they start taking their funds in retirement together with a very slight increase in future expected returns over the period until retirement.
 • The 40-year-old saver saw an increase in their expected retirement income of around £1,150 p.a. primarily due to an increase in the expected return they are assumed to achieve when they start taking their funds in retirement. However, this was offset slightly by a reduction in expected returns over the period until retirement for this saver.
 • Savers closer to retirement saw less of an increase in the expected returns they are assumed to achieve when they start to drawdown their benefits in retirement, and more of a reduction in the expected returns over the period until retirement. This meant the 50-year-old saver saw a much smaller increase over the quarter (of around £575 p.a.) when compared to the start of the quarter.
 • The expected income for the oldest saver increased by the smallest amount (around £225 p.a.) as they benefited the least from higher expected returns when they start taking their funds, - although they benefitted the most from investment return over the period.
 • Overall, the oldest saver is expected to be the worst off in retirement, with a retirement income around halfway between the updated minimum and moderate standards of living. This excludes any defined benefit pension benefits they may have but which are not included in this projection.
 • The younger three savers are all currently expected to achieve an income well in excess of the moderate standard of living in retirement.

 From the start of 2023, all sample savers in the Aon UK DC Pension Tracker were re-set back to their initial ages and starting fund values.