Target date funds (TDFs) may still feel something of a novelty for UK schemes but for State Street’s Nigel Aston, their time has come. Lifestyle funds – which control more than 70 per cent of UK DC – are fighting with one hand tied behind their back, says Aston, because they are incapable of adapting to changing markets, regulatory environment and human perceptions of investment.
The recent launch of its Timewise TDF range, which comes with a price tag of 30bps through the vast majority of State Street’s chosen distribution channels, sees the world’s second largest asset manager take a big step into that space between institutional and retail occupied by much of DC.
While there are a number of other TDFs there for trustees, employers and advisers to choose from, Aston sees one of the key differentiators of the State Street offering as being its attention to the behavioural aspects of the audience it is designed to serve, something few if any mass market TDF funds do to the same degree and, he argues, lifestyle funds ignore almost completely.
“People change over time. We know for example that young savers act differently to those in middle youth, and those approaching retirement. So we have done two large surveys of 1,000 DC participants to find out their attitudes to pension saving. And we will carry on doing two primary pieces of research of a similar sized audience each year to feed into our governance,” says Aston. “The funds are people-centric. We don’t put anything into the glide path unless we have thoroughly researched it from a behavioural perspective. So, our research about young people being more risk averse, especially those who haven’t saved before, has informed our decision to put in place target volatility triggers. This is different to Nest’s foundation phase but it is targeting the same thing, which is smooth investment returns, while not loosing too much of the upside,” he adds.
Risk controls come in two parts. One part is within the diversified fund, which monitors how the market is behaving.Nigel Aston, State Street
“If we see the volatility spiking, across currency pairs for example, then we can move towards secure assets. And on the equities in the early and middle stages, there is a target volatility trigger there as well. So if we see the market getting volatile, as it did approaching the global financial crisis, or the Russian crisis, then we can move people out into something more secure,” says Aston.
“We are trying to balance the behavioural matters with investment logic. So some would say you have to take massive investment risk in the early years because it doesn’t matter, and if you stay the course, that massive volatility is good for you. But that only works if you stay the course. Our research shows that if your fund is spiking then people won’t stay the course,” he adds.
Do State Street’s competitors not operate on a similar basis?
“Some do. Default funds with very robust governance, which will be the better resourced plans, probably do have this. But that is not the majority of plans that Corporate Adviser readers are looking after. Nest offers a rigorous and independent oversight. But I am not sure others do,” he says.
So what does this behavioural insight tell us? Does this extend to the growing need for drawdown that will surely develop in the coming years, and how will the range respond to the Budget changes?
“The liberalisation announced in the budget represents a fundamental evolution of a system which, to date, has effectively shoehorned all pensioners into annuity products increasingly perceived as anachronistic and poor value. Future retirees will now be trusted with the same level of responsibility and choice about their retirement savings as afforded to consumers in more mature DC markets such as Australia and the US.
“Our Timewise Target Retirement Funds effect well-governed asset allocation decisions based on real world behavioural and market insights as well as legislative changes that occur throughout the investment journey. The recent budget announcement will require a re-assessment of our Timewise Target Retirement Funds in the years leading up to retirement and beyond. Our belief that diversification, dynamic asset allocation and volatility management deliver the predictable outcomes that people want, will be just as true ‘through’ retirement as it is for the savings phase of the DC journey.”
Aston also attacks lifestyle funds for their inability to adapt to the way markets change over time. “Over the last 20 or so years we have had Black Monday, then the central Russian bank defaulting in 1998, then the dot.com bubble in 2000-2002, with £5trillion wiped off markets in those years. Then we had the global financial crisis, and we will doubtless have other shocks in the future,” he says.
Timewise offers dynamic asset allocation, which has, for example, enabled it to go overweight emerging markets at the moment, although he says the funds are more cautious than others on the market. “We are built from passive building blocks, so that makes us lower cost than most. And we are not as high risk as some of the other plans. The bottom line is some of those big drops in the market are risks that are simply not rewarded,” he says.
Aston points out that the dynamic approach in its UK funds is in contrast to the majority of US TDFs, which are strategic, meaning allocation calls are not being made regularly. So will the individuals within fund managers making these decisions ultimately become ‘star TDF managers’ if they consistently call the market successfully?
“You will see some target date funds doing better than others. But we are a team culture and it is not our style to personalise it in that way,” he says. Aston points out that TDFs are able to adapt to changes in legislation far more quickly than lifestyle funds.
“So although people, markets and legislation change, many default funds in the UK haven’t changed,” he says. Aston is at pains to stress that he does not want Timewise to be perceived as a low cost option, which is why the manager had not published its charges when the range was initially launched.
“For the vast majority of schemes we are targeting through the majority of channels we are distributing through, the all in price for investment is 30bps, although clearly if a huge scheme comes along we would probably drop that. We believe there is great compression on the fees. We want to make sure that if the charge cap comes in at 50 bps, so that most administrators can charge within that. But we do not want to be seen as a low cost player, given the rich features the product offers,” he says.
Despite the emerging concerns over the potential risks of a proliferation of master trusts, which have grown in number to anywhere between 25 and 70 depending who you talk to, Aston sees this as a positive development.
“I think it is healthy. There is likely to be a spectrum of quality, as always happens when a new market emerges. But anything that gives schemes and their members more choice is good because there is always a danger that with the aggregation of some of the biggest players that there would be a limited amount of choice for some of the smaller schemes.
“The two advantages that advisers have in putting together master trusts are that they are closer to their clients and they should bring a level of independence, that by definition some of the master trusts can’t exhibit. So as long as the governance and the value and the duty of care to the client are there, then more choice is something to be encouraged.
“Yes, in order to achieve good value you need scale. But that is scale for administration and for investment. Most of the advisers would be outsourcing both of those.” Aston also sees relationships with life offices, and distribution through their platforms as a key part of State Street’s strategy.
“We are having conversations, but nothing is in place just yet,” he says. “If you are a platform with an investment house, then you would owe it to your shareholders to try and get as many assets as possible through that investment house. But you would hope that if those platforms could see there was something better, they would want to offer it.
“But we would be able to bespoke things with components that were not SSGA funds, if it suited the needs of the client, as happens in the US, where we customise glide paths and it doesn’t have to be 100 per cent SSGA products inside,” he says.
So why would advisers recommend State Street’s offering over others on the market?
“Our behavioural approach is one key differentiator. Secondly, we think we are more efficient than the other target date funds. The principal reason for that is we build on our own platform, using our own institutional grade index components. We think efficiency and effectiveness comes from asset allocation rather than stock-picking. We think that gives you the greatest balance between good value and returns.
“The market used to be polarised between passives and global macro, fully active hedge funds. But there is a huge spectrum between those extremes. And one of the points of that is tactical asset allocation, and we don’t think that has been explored enough.
“We also think smart beta is another part of that continuum. So we haven’t got smart beta, or advanced beta components in the glide path on day one. But we anticipate that we will include them relatively soon.
“And thirdly, we think we are better because we are future-proofed, and that should give comfort to advisers, trustees, governance boards of contract-based schemes and consumers. And that is partly because research about policy and markets will change over time. These funds will be different because they will change over the years.”
And how are advisers going to be able to compare target date funds on a like-with-like basis? “The best way is net risk-adjusted return. But either the master trust, adviser or scheme need to find out what the right amount of risk to be taking is. We have researched that and we think our off the shelf version is the right amount of risk for the majority of people. But it may be for a particular audience you want to dial that up or down.”
Aston argues that Pensions minister Steve Webb’s approach to defined ambition focuses too much on certainty.
“We kind of buy that but we think that certainty is probably a step too far. Because it comes with a high cost. So we talk about predictability. So we do that by the risk-on, risk-off, diversity, volatility controls, and the rest. So if people can be more secure in the investment then they can be more confident on the savings part. So in the past people have doubled the savings but they haven’t necessarily seen a doubling of their pot, because the volatility or the annuity hedge has let them down.”
For Aston, this is because 70 per cent plus of UK DC money goes into lifestyle, where in the US, 70 per cent goes into TDFs. This, he argues, makes no sense and has to change. “The biggest instrument a fund manager has is asset allocation and the key is how that develops over time. So why would you fight with one hand tied behind your back?”
All about Nigel Aston
Born – England but brought up in Cardiff.
Studied – University of Wales, Aberystwyth – BA English Literature
Career – Has spent 25 years in DC pensions across strategy, sales, marketing and investment.
2001-2007 Axa – various roles in various parts of the company
2007-2009 Standard Life, ultimately head of strategy and propositions
2012 Astony Consulting
2012- present State Street Global Advisors
Enjoys –Music. Formerly a guitarist in a soul band. Loves fine wine.
Lives – London, with his family – has two sons.