This article relates to US DC managers (fiduciaries). It shows just how seriously the USA is taking the obligations of fiduciaries towards members of workplace pensions. This article calls for UK fiduciaries (Trustees and IGCs) to be given the opportunity to do the same.
New York Life Insurance Company is facing a lawsuit over mutual funds offered in its defined contribution (DC) plans—the latest in a string of 401(k) litigations.
The class action suit, filed on Monday in the US District Court for the Southern District of New York, claimed that New York Life breached its fiduciary duty in using its own brand of mutual funds—MainStay—in two employee pension plans, despite lower cost alternatives.
Specifically, the plaintiffs said New York Life “improperly and unjustly benefitted from the excessive fees and expenses” charged by the MainStay S&P 500 Index Fund, continuing to offer it even though “far less expensive S&P 500 index alternatives were available.”
The MainStay fund has annual costs of 35 basis points, the lawsuit said. Meanwhile, Vanguard’s S&P index fund costs 2 basis points per year, and State Street’s version charges roughly 4 basis points….
“A prudent fiduciary managing the plans in a process that was not tainted by self-interest would have removed the MainStay S&P 500 Index Fund from the plans,” the complaint said.
The idea that a fund investing in equities could be available at as little as 2 basis points (0.02% pa) may seem strange to UK retail investors, but that indeed is the wholesale cost of fund management and it’s round about what you’d expect to pay if you had billions of pounds either to invest, or in the investment pipeline.
For most of us, the assumption that what we pay as an AMC (50bps for L&G and People’s Pension as examples) reflects the costs of investment. This is not the case, the cost of investment management to People’s Pension is probably in the 2-4bps range quoted in the New York Life law suit.
I have to say “probably” because the actual amount that People’s parent B&CE is paying for People’s money is a closely guarded secret shared only between the fund manager and B&CE – and maybe the trustees of People’s Pension.
Earlier this year, People’s swapped fund managers, exchanging an investment management agreement (IMA) with Legal and General (LGIM) for one with State Street (SSga). We don’t know why they did this and we don’t know whether members of People’s Pension and policyholders of B&CE benefited. That is because both the old and new IMAs are secret.
Why transparency is needed
The deal done by B&CE on behalf of People’s Pension and others matters and we need to know all about it. This is why.
Firstly, while the overt amount charged to members has not changed (People’s Pension charges 50bps and B&CE has not varied its policy charges), the impact of the IMA on the outcomes of people’s savings may vary quite a lot.
Although LGIM and SSga both track the market, they track slightly different views of the market (market indices) and have different policies about stock lending and other activities that index-tracking (aka passive) managers get up to. You can read the detail here.
One factor in IMAs that makes a big difference in terms of member outcomes is whether the money the passive manager makes from other activities (such as stock lending) is returned to the fund or retained by the passive manager’s shareholders. The stock is ultimately owned by the owners of units in the fund (who take the risk that stock lent is not returned) . Most people think that these fees should be returned to the fund.
We simply don’t know what the stock lending policy was for LGIM or is for SSga and that’s because of the secrecy about the IMA. But history suggests that SSga do not share very well. See this article.
Why this matters
It is possible for a passive fund manager to artificially lower its headline cost of management to an organisation like B&CE without losing any margin. This is because of other activities such as stock lending, the profits of which are not counted as part of the costs and charges incurred by the fund.
But if fund manager A makes 0.05% of the value of the fund from stock lending and returns it to the fund, and fund manager B makes the same amount and returns it to the shareholder, fund manager A should see better fund performance of 0.05%.
Because of the lack of transparency in the IMA between SSga and B&CE we have no idea whether SSga or B&CE’s policyholders (including People’s Trustees) are winning.
You might think that we are talking about tiny sums and if we were just talking about today’s pot balances you’d be right (0.05% of £10,000 is £5) . But if you do the maths accross the £2bn at B&CE, this adds up to an extra £100k pa – roll that forward 20 years with increasing funds and you can see how valuable that fractional 0.05% might be.
Now of course these are made up numbers. I don’t know what the real ones are. But I want to, both for professional reasons and for personal reasons. If it turns out that the IMA change works in the favour of the policyholder then I will congratulate B&CE and People’s for exercising their fiduciary responsibilities to get members a bette
A call to action
It is not just B&CE and People’s pension that don’t publish their underlying IMAs, I don’t know of one workplace provider that shares this information.
This is a call to action to the Transparency Task Force, to those consultants interested in the long-term member outcomes of workplace pensions and to IGCs – to put pressure on Trustees and providers to circulate the terms they are getting under the IMA with each manager. I think this information should also be available to policyholders and members on request.
This is vital. If we are to understand value for money – we have to understand what we are getting and not getting from fund managers- including things like the revenues from stock lending.
If the IGCs are going to get a proper handle on the money leaking to intermediaries, they have to know about and understand the IMAs. The same goes for Trustees and for the advisers to IGCs and Trustees. The need extends to organisations such as http://www.pensionplaypen.com that is trying to make true and fair comparisons between various workplace pension providers
And for Government too.
If we are ever to have an inclusive charge cap, and it is looking increasingly unlikely that we will have the promised review of the workplace pension charge cap in April 2017, it must be based on the total cost to member not just of directly taken charges, but of non-recovered commissions and stock lending charges.
It is simply not good enough to overlook these costs now as “trivial”. They may be trivial in terms of today’s pots but they won’t be trivial in 20 years time, the difference between controlled costs and the free for all that an undisclosed IMA can amount to a serious reduction in a person’s pension.