With both The Pensions Regulator (TPR) and Financial Conduct Authority (FCA) turning the heat up on workplace pensions, the issue of value for money has never been higher up the agenda. As the auto-enrolment project moves to phased increases of contribution, ensuring schemes offer value for money is not only a regulatory requirement, but essential for the entire policy initiative, say pension professionals. But the concept of value for money, or value for member as TPR describes it, is a nebulous one. The industry has some way to go before it can be confident it is delivering VFM in a future-proofed and consistent way.
Delegates at last month’s Corporate Adviser round table – Value For Money In Workplace Pensions – identified a tension between what members think they want and what pension professionals think is good for them. The event also found areas where members have asked more from schemes and not received it and highlighted a particular challenge for governance bodies in coming clean with members about the inadequacy of their contributions. Other concerns ranged from the transparency and comparability of default funds to the inadequacy of at- retirement solutions.
What do members know?
The dilemma between what pension professionals would argue members should value and what members themselves would really value was highlighted by LCP co-head of trust consulting Stacy O’Sullivan.
She described a situation where a recent benefits study for a client had identified that members had appreciated Pizza Express vouchers more than a substantial contribution, leaving the sponsoring employer to ask questions why they were bothering going beyond the minimum. O’Sullivan suggested that the move online away from paper benefits statements may have contributed to this low level of appreciation of pension contributions.
But she also described occasions where member research, particularly through focus groups, had brought valuable insights into what members wanted in terms of functionality and information – insights that touched on members’ unease that they were probably not paying enough in.
She said: “Members said they wanted two buttons – one to show them what their fund value is and another one saying ‘add more’, so if you felt like you had a bit left over at the end of the month, you could stick in an extra £100 or so. We went back to providers and said they want two things. ‘fund value’ and ‘add more’ and they said ‘we can’t do ‘add more’’. It’s great to have something really simple, but if the systems don’t work seamlessly with an ‘add more’ button, it’s pointless.”
Communication is, said delegates, a value for money issue, because without engagement with their pensions, members are not likely to value them or to understand whether they need to pay in more.
Conduent head of DC Mark Pemberthy said: “With some benefit platforms, when people log on, they do see a fund value. It can lead to more engagement and you can do your outbound targeted communications to get participation rates up. That is at the progressive of end of the spectrum. For members of schemes in general, it is a real challenge.”
Mercer Jelf head of benefits strategy Steve Herbert added: “It is not just the pension. All employee benefits are not really appreciated unless they are communicated and communicated and communicated, regularly and in very simple language. It doesn’t fall within provider governance but it is certainly within consultants’ governance.”
Barnett Waddingham associate Martin Willis agreed that what members value will not be apparent without doing some digging to find out more about them, and then playing back the findings to them to ensure that the assumptions being drawn are accurate. He said: “It makes sense to actually speak with people to say ‘We’ve done all this modelling about what you are going to do, but are you aware of this and are you going to do it?’ When you engage with people on a qualitative and experience basis you start to unearth things.”
Delegates at the round table event agreed that contribution levels were a significant challenge for the industry, and while much of the auto-enrolment population were at the beginning of a series of much-needed contribution increases, many other pension scheme members were already at 8 per cent of earnings, or more, but were still not on course for the sort of retirement they might be expecting or hoping for. For both groups – those currently paying in 1 plus 1, and those already at the 8 per cent level, delegates expressed concern that at some point the industry will have to level with members about what they should expect.
But they suggested that the industry would have to get through the mandatory increase in contributions before addressing the broader adequacy issue.
Herbert said: “Before we start telling people to pay more voluntarily, they are going to have to pay more. We may also be taking away the lower earnings limit, which, for many people in the mid 2020s will be another significant amount of money out of their pay packet and into their pensions.”
Part of the problem is the negativity around pensions said delegates – with the industry taking a hit on trust with every bad headline about Carillion, British Steel or whichever other DB scheme that is in the news.
Willis argued people did not distinguish between problems between DB and DC. He said: “We know people don’t trust pensions. They don’t realise there is a lot of good stuff happening. Employer contributions, tax relief, charges that are so much lower than they have ever been before. Members don’t need to engage with everything, but we should be telling them something reassuring. It is a valuable benefit, more valuable than a Pizza Express discount.”
Mistry said employees tended to worry about any change. “There is a perception among employees that any change to a pension is a bad thing – that if things are changing it’s to save the company money. A lot of the time employees don’t engage because they feel it is going to be bad news.”
How much is enough?
Pemberthy said trustees’ value for money assessments could be focusing on the wrong factors if they overlooked adequacy. What look like the best schemes could be delivering really bad retirement outcomes, because there was not enough money going in, he said. But without a clear understanding of what ‘enough’ is, it would be hard to build a national narrative around increasing contributions. In turn, schemes that engaged members in ways that made them stay the course, and hopefully even contribute more, would offer value to those members, as contribution levels are the most significant influence on retirement outcome.
He said: “There is a massive elephant in the room from a national perspective. What does enough look like in terms of DC? There is no easy benchmark for members to say I am set for retirement.”
O’Sullivan added that in her member focus groups, people wanted ‘a rule of thumb’ for contributions in the same way as they did with a mortgage and salary multiples.
Mistry said: “We can bang on about increasing contributions but until we can tell them what they are going to get for their money, they won’t know whether to increase it by 1 per cent or 10 per cent or 20 per cent. How much is that going to give them?”
Nest senior business development manager Robin Armer pointed to the Pension and Lifetime Savings Association (PLSA) work on retirement income. He said: “Those headline numbers, which as an industry we have been petrified of someone writing down, would be invaluable to the man in the street.”
However Herbert disagreed as to the value of the PLSA work, particularly because the pension freedoms had created a world where the public often did not see their DC pension as an income stream. He said: “I don’t think a target works. There are so many variables. It is just a hostage to the media, down the line, for when it has all gone Pete Tong. It is much easier to describe your pot as ‘spare cash’. Put it in your pension because the bigger the pot of money, the better it is going to be for you.”
Value in performance
Mistry pointed out that research by IGCs among members last year found performance a top issue with safety a big concern, then contributions, while charges came way down the list.
Delegates expressed frustration at the lack of comparability in the master trust market, with the FCA-regulated contract- based sector also hard to compare, given the different glide paths and charging structures operated by different providers.
Pemberthy said: “DC is fundamentally a savings plan. The returns from that scheme over the long term are the major factor in delivering good outcomes, particularly net returns. So value is measured at the end. Engagement tools that encourage more contributions could be more important than adequate administration.”
Nest director of business development Helen Dowsey pointed to Nest research that showed it is not just getting the best possible returns over time that mattered to members. It is also about not taking too much risk, not least because younger members don’t want to see big falls.
Mistry raised the point that this could be compromising what is actually good for members as opposed to what members think is good for them.
But Dowsey rejected this challenge to Nest’s low-risk foundation phase for employees starting out in their careers, saying: “We looked at the last balance for risk and reward and said if we adopt a lower risk strategy what impact is that going to have in terms of pounds? It was a matter of a few quid. We felt it was a reasonable decision.”
Pemberthy said it was incumbent on IGCs and trustee boards to make the call on risk approach, adding that there was no right or wrong answer. It could make sense to be more cautious in the foundation stage, though others might say early volatility and pound cost averaging could be your friend.
He added: “The process that Nest has gone through and the structure and sophistication of the investment strategy is really strong. The process is very, very good. If we look at some market participants, they are far less sophisticated and more mechanistic. Nest has a lot to be proud off.”
Benchmark blind spot
O’Sullivan questioned whether too much attention was being paid to investment default benchmarks as opposed to what the return picture looked like for 35-, 45-, 55- and 63-year-olds.
But delegates did see potential for default funds to offer greater value to more members than they currently did by developing into more sophisticated vehicles, offering different levels of risk dependent on the size of the pot or the level of the contributions. By adopting these factors as a low-level proxy for capacity for risk, defaults could evolve into something that offered a slightly more efficient approach to investment.
Conversely, Pemberthy said there was an argument that if you have very high levels of contribution, you should look to manage volatility more to protect a good outcome, whereas if you have low levels of contributions you may want to have as much growth as you can get.
Mistry agreed, saying: “There is research that suggests that when the pot is at the value of their annual salary, or exceeds it, people take more notice. Of course, it is at that point when risk
management is more important. If it is a big amount and then loses a lot of money, then they worry about it.”
Opt ins but few opt ups
The behavioural approach offered by a scheme was also seen as a key area of potential value – or detriment. Auto- enrolment was leading to less engagement with pensions said O’Sullivan, raising the serious concern that employees were less likely to ‘opt up’ to a higher level than they had been prior to auto-enrolment.
O’Sullivan said: “Opting up has dropped off a cliff since AE. If I look compared with schemes five years, most go in at the lowest level.”
The problem, said delegates, is that rather than ‘you can opt to increase’, the option put to employees when they join schemes is ‘you have a month to opt out’.
Mistry suggested that members might assume that if an employer is auto- enrolling staff they will do so at the right rate not realising that it is the minimum and they should be putting a lot more in.
A scheme’s behavioural approach – for example its ability to harness technology to engage with members at key life moments when they were most likely to make positive changes in their saving behaviour, was seen as a tick on the VFM side of the ledger when assessing schemes.
Delegates pointed out that value for money is inextricably linked to governance, and added that governance had been turned on its head by the constantly shifting approach of policymakers.
Herbert said: “We keep getting complete inconsistency from the government and the regulator and indeed the providers about what good governance is. Providers are still talking about retirement outcomes, but a lot of people are going to take the money and run. Building governance around this moving target is really difficult.”
The ability to be flexible and remain non-conflicted with regard to the elements within the scheme offered was seen as a key part of value for money. Given the high-profile administration and asset management problems of one big master trust player, and the backdrop of the Competition and Markets Authority investigation into investment consultants, the ability to separate and retender for elements of a scheme was seen as an important factor.
Pemberthy said: “With small ‘g’ governance, an adviser could say: ‘We see some failures here. Are you considering another pension scheme?’ A trustee of a pension scheme doing big ‘G’ governance, cannot say that – they can hold the sponsor to account, but the process of changing is much longer and, in some cases, they are commercially conflicted.
The evolution of VFM
What trustees, IGCs, pension consultants and advisers see as value for money looks set to develop as pots grow, understanding of pensions evolves and the regulatory landscape changes. For the general public, the direction of stock markets and negative headlines will also influence their perceptions of value. We can expect understanding of value for money to become clearer as we pass through 2018 pension professionals will do well to stay ahead of the curve in their understanding of where this nebulous concept is going.
THE REGULATOR’S STARTING POINT FOR VALUE
In the contract-based world Independent Governance Committees (IGCs) have a duty to assess value for money for members. For trustees of occupational schemes the obligation is to assess value for members, which is essentially a requirement to ensure that members get value for money. The DC code contains guidance on how to assess value for members, though it leaves it to trustees themselves to decide precisely what weight they should give to the various factors involved.
So what should trustees consider when assessing value for money in DC schemes?
TPR guidance on value for members
- All members should receive good value from their pension scheme, regardless of whether trustees have a legal duty to assess and report on value for members annually.
• There is no single approach
to an assessment of value – trustees should develop their own policy which reflects the circumstances of their scheme and its members.
• It’s important for trustees to understand what their scheme’s members value as far as possible but, ultimately, they need to use their judgement to determine whether the scheme offers good value.
• Trustees’ assessment should involve considering the quality and scope of scheme provision as well as the cost.
• Trustees need to try to understand how their costs and what is provided for those costs compare with other options available in the market.
• Trustees should strive to ensure that the scheme continues to provide good value for the full period that they are responsible for the members’ funds.