However, according to the PPI, the current DC pensions system may now be less suitable for pension savers and offers them less optimal retirement outcomes. This throws up the question of how to best maximise the returns from DC savers’ investments to and through retirement.
Modelling by the PPI showed that a median earner saving 8% of total earnings from age 22 to State Pension age (SPa) could increase their pension pot by:
• 13% if they increased their contributions from 8% to 9% of total earnings, and 5% if they worked for an extra two years after SPa
• Between 6% to 8% if smaller DC schemes consolidated and charges dropped due to benefits of scale. Currently, the average charge in contract or trust-based schemes with five members or less is 0.72%. For schemes with a thousand members or more, the average charge is 0.37% in trust-based schemes and 0.45% in contract-based schemes
• Between 2% and 3% if pension assets were invested in a Diversified Growth Fund (DGF) rather than a lifestyle strategy, and if between 10% - 15% of that fund was invested in assets such as infrastructure or real estate.
Andrew Nicoll, Global Head of Insurance at Columbia Threadneedle Investments, commented: “Yet again this year, The DC Future Book has given us clear insights into the UK’s DC pension landscape. The analysis increasingly suggests that the traditional default investment strategy and lifestyle model may no longer be appropriate for an ever-increasing number of DC pension savers. Whilst significant de-risking closer to retirement reduces volatility, it also reduces the opportunity to realise higher returns. This is particularly relevant for those savers who wish to continue to invest throughout retirement by opting for income drawdown.
“As asset managers, we believe that appropriate investments can and should do the heavy lifting. The onus is on our industry to provide DC investment solutions which are more fit-for-purpose, that aim to deliver robust risk-adjusted returns while at the same time protecting savings against market turbulence and inflation. These products need to be managed dynamically and within a fee structure that offers genuine value for money.
“Of course, trustees also have a role to play. DGFs that can invest in assets such as real estate or infrastructure, for example, rarely feature in DC default funds. Yet DB schemes - with similar long-term investment horizons - commonly invest in such assets alongside more volatile investments like equities. As The DC Future Book shows, illiquid assets are an important diversifier and have the potential to deliver secure, inflation-linked returns over the long-term. This matches the needs of DC scheme members as much as those in DB schemes.”
Daniela Silcock, Head of Policy Research at the Pension Policy Institute, said: “Government and industry have made significant progress in adapting the DC landscape to the new profile of pension savers, post automatic enrolment, and the introduction of the pension flexibilities which have changed the needs and behaviour of DC members. However, the UK is still going through a process of adaptation and growth. Further changes to governance and investment management have the potential to increase DC pension pot sizes.
“According to our research, communication and behavioural nudges which result in increased contribution levels and/or longer working, can have the most significant impact on member pension pot sizes. Moves away from significant de-risking in the approach to retirement can also have a positive effect, though significant de-risking will be appropriate for savers who wish to purchase an annuity. We also found that the use of illiquid funds and investment in funds that take account of the financial implications of ESG can be beneficial, though these can be more resource-heavy to manage.
The same applies to a drop in charges arising from scheme growth or consolidation.
“Alongside these changes, a more holistic approach to value for money could also have a substantial impact. For example, investment strategies focused on sustainable, long-term returns could increase the size of pension pots, even if they result in higher member charges. Greater transparency on administration charges could allow trustees and IGCs to assess where there may be unnecessary spending, and improvements in communication which encourage greater engagement by members could result in increased contributions or longer working.”
Now in its fifth year, The DC Future Book, published in association with Columbia Threadneedle Investments, is an annual longitudinal study of UK DC workplace pensions that explores how the market is developing and the challenges faced by pension savers as well as those at and in retirement.
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