Isn’t it time we thought of pensions as insurance (again)?



Yesterday, I wrote of the positive future that I saw for collective schemes, if they could rid themselves of the pernicious effects of financial economics. I based my arguments on my perceptions of the impact of mark to market measurement of scheme assets and liabilities.

In this blog, I want to step off-stage and look at some of the behind the scenes changes in the way we manage and consider pensions, comparing the financial environment when I started work (early eighties) to today.

The way things were

One of the first things I learned in my training as an insurance salesman was that there were three insurables; people could insure against dying too soon, getting sick and living too long. Occupational pension schemes paid to survivors on death in service, paid ill health pensions and offered early retirement and to those who made it to retirement, they paid a pension which lasted so long as the pensioner and spouse did.

When I sold personal pensions, we were told to offer and often insist that individual life cover and waiver of premium were included in the product. It was taught to us that this is what company pensions did and they did it for good reason. It was the concept of insurance that prevailed.

The way things are

Nowadays, advisers tend not to engage people with the insurables. Most people are in workplace pensions which use “nudge” rather than advice to get people saving. the concepts of integrated health, life and pension cover within an occupational scheme survives only in a few mighty pension schemes which self-insure. For the most part, PMI, PHI. CI and DIS are components of “employee benefit packages”.

The link between your pension and your life and health cover has been broken as has been the link between member and trustee. Very few people think of death in service cover as part of their pension (even if technically it forms part of a pension arrangement). People know that the contract is between them and an insurer – the employer is doing no more than paying a premium.

More importantly, the concept of the employer being financially  responsible for the longevity of staff- has disappeared. One of the things I heard from older members of the British Steel Pension Scheme was the complaint that the company no longer wanted to look after them (as it had their fathers and grandfathers).

Nowadays, many pensioners find themselves being paid not by their employer’s trustees but by organisations they have never worked for- PIC, Paternoster, a range of insurers and the PPF. This is the sad consequence of buy-out or employer failure – either voluntarily or due to corporate failure, the idea of the employer as insurer against old age, has all but gone.

The new contracts – financially engineered.

The concept of insurance as a contract between two parties hasn’t just gone from company pensions , it has gone full stop. Little risk is taken directly by insurers, most is laid off to other (re) insurers or the capital market. Banks now use contracts for difference to take risk on all the promises that used to be made by pension schemes.

It is not the “tail risks” (the exceptions such as those living beyond 100) whose risks are being passed on to banks, the fundamental investment of the pension fund is now supported by a range of derivative products provided by the capital markets, designed to meet the demands of financial economics. The most common Financial Economics strategy is Liability Driven Investment which is a way for companies to invest more than they’ve got to get more bonds. But almost every new idea that is touted by the investment consultants contains some exposure to “structured products” – artificial constructs designed to protect trustees from perceived risks.

This movement away from directly invested assets into structured (or artificial) products, puts still more distance between the employer and staff. It is now the trustee who is responsible for investment decisions (though most trustees struggle to explain what decisions they have taken).

The struggle to understand

I have sat in trustee meetings of some great pension schemes, in which all but a handful of the people in the room have any idea what is being decided upon. The few who know are typically on the sales side and this asymmetry of information is deeply worrying.

It may be that a bank may be offering fair value on a longevity swap, but if there is no understanding of what fair value looks like, how can any of the buyers be sure. This worry was shared last week by the Competition and Markets Authority who showed how Fiduciary Managers are almost totally unaccountable for what they do, partly because they have outsourced the skillset that trustees had, to know what was going on.

The same phenomenon is going on in personal finance where, having abandoned pensions for wealth management, insurance for investment and products for platforms, people are now further away than ever from the fundamental reasons they invested their money.

It is all too easy for us to consider pension freedoms as the freedom not to consider pensions and we are easily beguiled by the wealth management into considering our pension pots as a tax-advantaged means to create and maintain wealth, rather than as an insurance against old age.

Into this world of mysterious tax-planning arrive the banks with various structured notes that – as with company pensions – create artificial solutions to problems we might never have thought we had.

The more complex the better – for some advisers – who find such structured products ideally suited for them getting paid.

Everywhere we look , we find financial economics being used as an excuse for those with a little knowledge to sell expensive and incomprehensible products to people who have lost confidence to take decisions for themselves. It is difficult not to conclude that this was the point of adopting financial economics in the first place. It puts a small group of experts in charge of a large amount of our money and it gives them the keys to the fee-extraction machine.

Transparency is key

I am constantly being requested by the Financial Economists to read long and complicated books to understand what they are about. I resist doing so partly because I am not good at maths, partly because I am time poor but mostly because  I don’t see why I need to become an expert in something that is trying to replace something that works perfectly well.

The basic principles of an occupational pension scheme are understandable – even to a non-actuary like me! The concepts of prudence, asset matching, liability management and discounting are not beyond even my poor mathematical brain.

I can understand why it is sensible, efficient and safe to keep collective pensions open and why closing them is not good news. I understand why collectives can provide insurance again insurables in a way that individuals can’t and I thoroughly get economies of scale created by employers pooling assets and risk under the oversight of trustees.

Why can’t we go back to the good old days when we could see what was going on, accept risks for what they are and use our best endeavours to insure each other against living dying too soon, getting too sick and living too long?

About henry tapper

Founder of the Pension PlayPen,, partner of Stella, father of Olly . I am the Pension Plowman
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2 Responses to Isn’t it time we thought of pensions as insurance (again)?

  1. John Mather says:

    I think you must go back to the early 70’s and look at the deferred annuity contracts to find direct links between investment and outcomes underwritten by insurance companies.

    Unit linking shifted the risk from the fat balance sheets of insurers to the thin balance sheet of the individual

    Shifting risk is a cynical game at the expense of the ignorant

    During the last 50 years, the economy has moved from a positive trade balance based on manufacture to a service economy propped up by consumption financed by debt.

    Borrowing to consume has never made sense in the long-term

    However, the problem of who takes the risk is rather academic when the public is encouraged to borrow its future as summarised well in this article in the Guardian

  2. Mark Meldon says:

    Very prescient, Henry! I do wonder if we might see a modest resurgence of ‘self-reliance’ in these worrying economic times. The UK citizen is suffering from a decade of falling prosperity; the average wage-earner is poorer than they were a decade ago, according to various sources, and I believe that it is this experience that has led to the rise of, shall we say, ‘difficult’ political circumstances.

    Few IFA’s I meet ever arrange insurance as they like to be seen as very clever ‘wealth managers’ as you say. This is plainly wrong. I always start with the basics (wills, life cover, etc.), before moving on to investment matters.

    However, there is a problem of product supply compared to when I came into this profession back in the late 1980s. So many ‘life offices’ have vanished, arguably reducing competition, that we are beginning, I fear, to see a monopolisation of products. Never a good thing.

    Just two firms offer purchased life annuities, less than 10 pension annuities, hardly any family income benefit, and the personal pension market has shrunk from 90+ in the early 1990s to only around a half-dozen serious players.

    Sadly, affordability is the real problem here, and I have no solution to that.

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