The Financial Conduct Authority’s (FCA) new Value for Money (VFM) consultation for contract-based arrangements aims to achieve long-awaited consistency in measuring the effectiveness of all workplace DC pension schemes. While the overarching objectives of the initiative are commendable, as ever, there are complexities and the risk of unintended consequences which need to be carefully considered to ensure its aims are met in the long run.
The proposed framework pushes for a common framework aligning broader consumer duty principles with those applied within The Pensions Regulator’s Value for Members requirements, which applies to smaller trust-based DC pension schemes. The FCA’s collaboration with the Department for Work and Pensions and TPR would facilitate this.
Moreover, the proposed standardisation of reporting ‘value’ should enable transparent comparability between schemes across a number of areas, including investment performance, costs, and quality of services. This will be principally delivered through a traffic light rating system – where amber or red ratings indicate interventions are needed to improve value to members.
But there are dangers the new framework could create red tape. While the proposal has commendable objectives, there are several areas where further consideration is needed.
Firstly, the framework paves the way for removing cost as a barrier to the Government’s ambition of increasing investment into UK productive finance. However, it is crucial not to overlook the impact these measures may have on members’ retirement outcomes. Many members are already enrolled in large schemes subject to stringent governance requirements and regulatory scrutiny. Therefore, questions arise over the short to medium-term impact this framework will have on the typical saver.
There is a concern that while the framework may eventually lead to better, more consistent retirement outcomes in the long-term, perhaps there is lower hanging fruit insofar as materially improving nearer-term retirement outcomes is concerned – for example, expanding the auto-enrolment ‘net’ so that more savers are saving more for retirement.
Another issue is that the proposed measures will only apply to accumulation products, leaving decumulation products seemingly out of scope. This is a missed opportunity to provide end-to-end value for money and narrows the potential for success of the framework.
There is also a noticeable omission regarding the extent to which environmental, social, and governance factors impact longer-term returns. Given the laser focus on incorporating ESG into investment decision-making, it is surprising this aspect is not more prominently addressed.
Meanwhile, despite the RAG’s system’s potential simplicity, it does raise concerns around the complexity of the metrics used to determine the scheme’s grade. A rating system that heavily weights certain factors over others could lead to unintended behaviours. For example, schemes may focus excessively on avoiding an amber rating at all costs, potentially at the expense of addressing areas that could better improve member outcomes.
Another important point is the need to consider forward-looking returns, not just past performance. While backward-looking returns are an important metric, future expected returns, particularly when considering ESG and the sustainability of certain asset classes are equally crucial – the best performing investment five years ago may not be the best performing in five years’ time.
Lastly, it is worth noting that for an industry-wide problem, we need an industry-wide solution. We would question whether non-workplace schemes should be in scope. Excluding these schemes from the framework could result in an incomplete solution, leaving some individuals at risk of poor outcomes.
There are pluses and minuses here. The FCA’s proposed VFM framework represents a significant step forward in achieving better, more consistent outcomes for DC pension scheme members. It is potentially the closest regulatory alignment we’ve seen between trust-and contract-based schemes for many years, and the principal objectives are sound.
However, there are several areas where further refinement is needed to ensure that the framework delivers as intended.
