Only a 1930s-style depression would have caused pension income to be cut under new collective defined contribution (CDC) schemes, according to new research from Aon.
The pension consultancy said extensive analysis indicates these CDC arrangements would have weathered the recent market turbulence well.
The analysis comes in a new report, ‘Collective DC in adverse markets’ which looks at how a typical CDC scheme design would have performed in different market scenarios, compared with DB and DC arrangements, and how this would affect member outcomes.
Aon’s head of CDC Chintan Gandhi says: “The nature of a CDC scheme means that members’ target pension increases can be adjusted to reflect positive and negative experience over a period of years.
“This means that the impact of market movements – in either direction – are shared between members and then smoothed over time.
“For example, in response to the 25 per cent asset falls we saw at the end of this year’s first quarter, we expect members of a typical CDC scheme, targeting say 3 per cent pa pension increases at the start of the year, would have been able to expect a 2 per cent increase both in the coming year and in future years.
“This represents lower increases to their benefits than they might previously had expected, but crucially, the one-off market shock would not have resulted in a cut to their benefits.”
Gandhi adds: “We have also considered how a well-designed CDC scheme, targeting inflationary increases to members’ benefits, might have performed more generally. To do this, we have back-tested the impact of past market performance — between 1930 and 31 March 2020 — on the benefit adjustment outcomes for members of a hypothetical CDC scheme.
“Our analysis revealed that a well-designed CDC scheme might have seen just one cut in benefits – during the Great Depression of the 1930s. Moreover, even after the market shock following the outbreak of the coronavirus our hypothetical scheme is expected to deliver a modest, positive increase to members’ benefits in 2021.”
This report followed previous analysis by Willis Towers Watson – whose shareholders have approved a merger with Aon’s shareholders – which found CDC schemes had the potential to deliver pension incomes that were 70 per cent higher than annuities bought through traditional DC schemes.
WTW has been acting as a consultant on the new Royal Mail CDC scheme.
Aon’s head of UK retirement policy Matthew Arends adds: “CDC is now firmly back on the agenda, with the Pension Schemes Bill expected to continue its passage through the House of Commons this week, and Royal Assent of the Bill expected in late 2020.”
He added that he expected a number of employers will look at this as a pension option in future.