Investing in diversified equities, rather than solely government bonds, leads to better long-term retirement outcomes in DC pensions, but it requires managing volatility, tailored defaults and longevity risks.
That was the key takeaway from a presentation by OECD policy analyst Stéphanie Payet at Corporate Adviser’s Master Trust Conference, who highlighted the role of equity investment in DC retirement outcomes.
According to OECD research, the UK DC assets remain modest by international standards, representing around 11 per cent of GDP based on Office for National Statistics data.
Payet said: “The UK is still quite small in terms of assets as a percentage of GDP, especially when you compare it to countries where DC pensions are mandatory, such as Denmark, Iceland, Australia or the US, where the DC market is much more mature.”
According to the OECD, data limitations mean equity holdings are likely underestimated. UK DC schemes likely hold more equities than reported, placing them closer to more equity-heavy markets like the US. She also added that the data doesn’t allow for breaking down between DB and DC, “so that equity allocation of about 30 per cent is an underestimate for the DC market here.”
Payet showed that across case studies, historical data and modelling, higher equity exposure consistently improves DC retirement outcomes, noting that “investing in equity markets would bring better retirement income outcomes.”
Meanwhile, historical returns show UK investors in diversified equities over 40 years would have outperformed government bonds, with stochastic simulations confirming higher replacement rates in 87–94 per cent of cases, though she cautioned that equities carry inherent volatility. Payet recommended mitigating downside risk through lifecycle strategies that gradually reduce equity exposure before retirement.
She said: “In the case of the UK, 100 per cent of all the cohorts we looked at would have been better off investing 100 per cent in equities as opposed to government bonds. People need to be aware that yes, with equities comes volatility, but overall, you would be better off. Having life cycle investment strategies that reduce the equity investment in the last years just before retirement can mitigate that risk.”
Payet also highlighted UK-specific factors, noting that high home ownership can reduce the need for large equity exposure, while a relatively low state pension increases the importance of boosting retirement savings through investment.
She also warned that overly conservative defaults waste opportunity, saying “investment limits should not impede pension funds”, and each country should set a suitable default equity level.
Payet emphasised the need to balance flexibility with longevity protection, recommending a combination of early retirement drawdown and deferred life annuities to manage long-term retirement risk.
She said: “One of the options we put forward is that people also need some flexibility. So the idea of having a drawdown product during the first part of the retirement period and then a deferred life annuity… is a good mix.”
Payet touched on ESG and investment principles, emphasising that member-focused, risk-adjusted outcomes remain paramount.
She said: “The goal of pension funds is to manage the assets in the best interest of members, which means reaching the best risk-adjusted returns. The key message is that you need to take into account all the risks in your governance and in your investment management process.”
The OECD’s findings underline equities’ key role in DC outcomes, while stressing that risk, investment horizon and individual circumstances matter. Payet highlighted the need for UK providers to innovate in default strategies, design flexible glide paths and enhance member education to optimise retirement outcomes.
