London busses

It’s almost like having joined up Government. No sooner has the FCA’s consultation on VFM pinged into the inbox when along comes the DWP’s call for evidence on the charge cap. But I’m not complaining; “What Zoom has brought together may no blog tear asunder”.

But whereas the FCA consultation is a crazy-radical consultation, the DWP’s paper is just a call for evidence (which ends August 20th). It is a feisty paper which begs as many questions as it asks. Guy Opperman would like to see DC with social purpose – his department are nervous of the funds industry. The DWP want to protect small pots – HMRC are penalizing small savers. Pension policy isn’t easy, especially now.

I support the proposals in this paper but only if they are implemented as part of a consistent Government strategy which rewards the savers of small pots and makes it easy for small pots to be rolled into bigger ones.

First the important un-sexy stuff

The one new idea in the paper is to protect people with small pots from NOW’s £18 pa admin deduction . The DWP propose that flat rate fees are banned in certain instances

This will be painful. The two levies alone make small pots uneconomic, small pots are already causing a lot of pain to master trusts and they are moving to combination charges out of financial necessity.

People’s Pension has now has a flat fee of £2.50 pa , some Smart members pay flat fees and many of the smaller master trusts have “combination charges”. NEST is not impacted because its combination charge is different, it comes from the contribution not the pot.

There are rules around combination charging already and it’s worth noting that there are occasions when NEST’s combination charges has the impact of breaching the cap. For savers close to drawing benefits, NEST’s 2% contribution charge is very expensive.

The DWP are open to further criticism of market distortion by leaving NEST alone while threatening to remove the spark plugs from its rival’s financing engine.

Government is not in a strong position either as owners as NEST or as the collectors of taxes and the granters of savings incentives .  While the DWP get exercised about combination charging , HMRC are failing to fix an excess 25% contribution charge that  they  promised low-earners in net pay DC schemes – something that’s costing those who are in net pay schemes but pay no income tax around £63pa.

So just why are the flat rate chargers getting singled out? I can hear “disgusted of DWP arguing to the likes of NOW

but hold on: you took all these members on thinking they could safely charge their pots (employer’s money, taxpayer’s money, savers’ money) down to zero? Despite all the noise being made Work and Pensions Select Committee, Pension Bee and others? Why is that OK for you, when it’s not OK for the insurers, who for once are on the side of the angels

I think the flat rate charge on small pots is wrong but I don’t think its fair to demonise Peoples and Now and angelify L&G and Aviva,

The insurers have a culture of mono-charging which arrived with stakeholder pensions. They are set up to take their money at the back end of contracts which is what a mono-charge does.

The commercial master trusts (e.g. everyone but NEST) have done the heavy lifting during auto-enrollment while the insurers cherry- picked business.

Were it not for the commercial master trusts there would have been no choice for most small companies and that would not have played well. The legacy of being open for all is that most of the auto-enrolling master trusts already have more deferred members than active and actual pot sizes are so low as to require flat rate charging.

While the DWP are telling the master trusts, “you entered into this with open eyes”, the master trusts have every reason to feel let down.

The DWP are right to take on the ruination of small pots but there needs to be a quid pro quo in this.

If the Government wants to force People’s , NOW, to a degree Smart and several smaller master trusts it’s got to give them the means to mitigate the existential risk of small pot proliferation.

• It must allow small pots to be exchanged in bulk between master trusts (what is not supposed to be known as prisoner exchange

• It is going to need to detach the pension finder service from the dashboard build so that aggregators like Pension Bee and others can link into the databases of the big auto-enrolling master trusts and grab small pots.
• Its going to make it clear that the rules that apply to DB pensions don’t apply to DC pots – certainly pots which have no need for safeguarding and that means modern workplace pensions.
• Finally it’s going to have to fix the net pay problem because big Government is looking totally idiotic no paying promised incentives into the poorest pots.

Right now the direction of legislation is to make it harder not easier for ordinary people to transfer small pots and it looks as if moves to safeguard DB benefits may have the unintended consequence of slowing transfers down even more (Lords look to mandate guidance on pension transfers)

a proliferation of small pots

Now for the sexy stuff.

All this pounds shillings and pence stuff concerns the little loved pension poor and is  a million miles from where the action is in “the funds industry”.

Here the talk is of whether Guy Opperman’s plans for infrastructure and Private Equity firms plans for private equity are going to be dashed because the DWP impose an all inconclusive charge cap. It should be remembered that transaction charges were originally included in the charge cap.

Back in 2014 the IMA had argued that there was no way to identify hidden charges and indeed there wasn’t. They were hidden for a reason. The IMA went so far as to joke that hidden charges were like the Loch Ness monster

But 5 years later things are different , we can get the hidden costs and the FCA has adopted slippage as the way of measuring them. Of course there are ways of cheating at charges but (like golf) if you get caught cheating, there are ways of excluding you from the party. The charge cap is a way of excluding high-charging fund managers from the party.

So the argument is that the old objection has gone.  But there is a new objection to having an inclusive charge cap and that is it would stifle innovation and mean that the fourth road bridge can’t be repainted at the pension scheme’s expense.

If you’ve been reading Chris Sier’s articles in Pensions Week or on here , you’ll know that as soon as Trustees get a billion quid to play with , they go out and buy expensive asset management which usually turns out to do what cheap asset management does – more expensively.

The argument is that  this privilege should be extended to DC. Fortunately, people who run DC schemes are generally commercial animals that know that anything they spend on fund management is money they can’t spend managing pots of less than £100 for 0.75% (especially when they’re laying out 0.9% to pay the levies).

In short the platform managers of workplace pensions are not going to be buying expensive versions of what they can buy cheaply (for all the undying love of the fund management industry).

Fund management is actually a  pretty small cost for a DC platform manager. But it can become a much bigger cost if the hidden fees which were charged to savers now become part of the cap. That’s because those hidden fees are either going to put up the price (which isn’t going to make friends of employers and members) or it’s going to come out of the provider’s margin. So the provider’s platform manager is going to make sure that whatever’s bought has manageable hidden costs.

Putting hidden costs inside the cap makes them the responsibility of the platform manager. Continuing with the current regime means that firms like Fidelity who have hidden costs coming out of their ears, have to do something about them.

If you don’t follow my gist , here are the disclosed costs for Fidelity’s leading DC funds. (taken from this year’s  IGC chair’s statement which publishes  these numbers without comment). The bulleted numbers represent the impact of transaction costs on Fidelity’s three principle funds. These costs are not included in the annual management charge  which is what is capped.

Now if Fidelity had to declare those transaction costs in their AMC, they would be looking pretty expensive. But because they don’t include them in their AMC, they look very cheap.

If the Government want fund management houses like Fidelity to use proprietary funds in workplace pensions , they had better make sure that disclosure is on the total cost of ownership and not on a lite AMC with most of the charge being under the water.

And if it’s not Fidelity it will be someone else, even the passive managers who can make more money out of stock lending and other rinki-dinks than they can our of AMCs.   Give the funds industry an inch and they’ll charge you for 20cm.

It really does make sense to include hidden costs in the cap and make sure that hidden costs in a default trend to zero. This is not going to bankrupt anyone, it is just going to make sure that private equity and other expensive asset hunters go fishing in other ponds.