Are the new pension changes good for members and the UK?

With the Budget announcements made by the Chancellor this year, the goal has been simple, to make pensions more attractive to the UK population, by increasing annual allowances, abolishing the lifetime allowance and increasing the money purchase allowance. There has certainly been a lot of recent noise around the pension industry, especially for one that has traditionally been known as a sleeping giant.

The Chancellor, Jeremy Hunt, is trying to wake that giant, with his latest announcement that will potentially change the way our pension pots are invested. The Mansion House Compact agreement was published in July and has been seen as a game changer for the pension industry, as well as the UK economy. All of the largest pension providers including Aviva, Scottish Widows, L&G, Aegon, Nest (the Government led initiative) and Smart Pension have pledged their commitment to it.

The Mansion House “Golden Rules” include securing the best possible outcome for pension savers, strengthening the UK’s position as a leading financial centre to create wealth and fund public services and, to secure a strong diversified gilt market. The agreement is looking for the signatory pension providers to deliver on these through their commitment to assign at least 5% of their default fund investments into unlisted equities by 2030. This means part of pension pots will be invested in private limited firms, with the objective of funding the growth of businesses within the UK, to help push a stuttering economy. Pension members are set to reap the rewards as past performance has shown that private markets have outperformed public equities over the long term. The Government is confident that this will have a positive impact on pension pots and has predicted this change could boost savings by 12% over the course of an employee’s career. However, it is important to note, that past returns do not guarantee future performance.

Analysing the pension market, this could incentivise pension Investment Managers (IMs) to seek greater returns and explore investment strategies they wouldn’t ordinarily be able to. IMs typically work within stringent parameters, limiting returns they are able to generate on behalf of pension members. This raises our first query as to how the compact agreement will be introduced, as it is likely investment managers would expect to be remunerated in line with achieving higher returns, which would inevitably fall to the member to fund. Within the Government’s “Incorporating Performance fees within the charge cap” consultation, it has already been recognised that the existing cap could be a potential barrier to invest in alternative asset classes, particularly venture capital and growth equity. Therefore, could a consequence be that the pension charge cap of 0.75% is lifted and as a result members will have to suffer higher charges. As well as this, additional work will need to be undertaken to screen and identify the most suitable companies to invest in, which could create additional fees.

Another query for the pension providers is how this will affect the risk of default funds, as they cannot be deemed as overly risky, with these promised changes potentially tilting funds towards a more adventurous approach. With that said, some pension providers within the market have proactively reduced their exposure to UK markets in recent years to remove home bias and risk (due to the turbulence seen in recent years), as the UK only accounts for 5% of global markets. When it comes to guarding the value of member pension pots, default investment strategies do have an automatic layer of protection known as “glidepathing” that transitions member pension pots into less volatile investments when approaching retirement. However, it is unclear how pension providers will tweak their default fund to accommodate a new proportion of risk into their strategies during the growth stage of a pension member’s career.

All things considered, we believe the agreement will affect the industry and the UK in a positive sense, not only is the Government looking to harness the trillions invested in UK pension funds to grow the economy, but pension members will be the direct beneficiaries, improving returns for those who are passive investors. Of course, there may be higher volatility associated with funds, but over the lifetime of an individual’s career, sufficient time is available to ride that higher volatility to secure potential greater return.

If you would like to discuss your pension setup in more detail, please contact teambc@connorbroadley.co.uk