It is not acceptable for savers to be enrolled in arrangements that do not deliver value in terms of costs, investment returns or secure and resilient governance. Government would expect trustees acting in the best interests of their members to take appropriate action to wind up and consolidate without TPR needing to exercise its powers.
This is how the DWP have responded to its 18 month long consultation on DC scheme consolidation. In case such schemes think they can spin this out for as long again, the DWP continue
It is proposed that these regulations will come into force on 5 October 2021.
Trustees will be required to assess their scheme for value for money on a basis prescribed by the Pensions Regulator. The consultation’s assumption is that most small DC schemes will fail their own assessment.
Trustees with failing assessments can be given grace to improve but their homework will eventually be marked by the Pensions Regulator.
If the trustees fail in this attempt to improve they will be expected to wind up the scheme and consolidate the members into a scheme that offers better value.
In case trustees are in doubt, the DWP end their summation
TPR has the power to issue an order to wind up the scheme, to remove trustees in certain circumstances, or to appoint new trustees to properly manage the scheme’s assets.
The Government has widened the scope of the schemes that concern them (previously schemes with less than £10m). It’s scope now includes all DC schemes with less than £100m that are more than 3 years old
A new Value for Money/Member assessment
Lurking behind this is a new and much tougher VFM test. This is aligned to the proposals in FCA’s CP20/9 VFM policy statement and calls for the same three legged stool approach with the test focusing on returns , charges and ” governance and administration”. The FCA opt for “quality of service” instead of governance but a peek behind the curtain suggests that the terms amount to much the same. This is an unusual and most happy alignment between the Regulators.
The risk remains however that Trustees , IGCs and GAAs can continue to argue that in their opinion “their provider continues to offer value for money”. To mitigate the risk that the opinion is biased by a conflict in favor of self-survival, both regulators appear to be moving towards a quantitative assessment where opinion is based on evidence and evidence based on data and benchmarking.
This assessment is variously described as “new” and “more holistic” but it’s clear from the sub-text of the consultation that for occupational DC schemes with less than £100m in assets that have been going for more than three years life is going to get a lot tougher. That includes commercial master trusts, some of which will fall need to take the new assessment.
So what of the new assessment?
Reporting will be against net returns
The key new idea is that of a “net return”.
We agree that while costs and charges have a significant impact on member outcomes they are best understood in the broader context of what the scheme delivers. The net returns received is a crucial factor in measuring value for members
The net return of a scheme may be measured by the quoted performance less stated charges but the DWP seem to be pointing at the return experienced by members in “various age cohorts”. This suggests a move towards measuring returns experienced by members. The illustrations in the Statutory Guidance (published in annex E)explain how this will work and it looks very complicated and makes comparisons between schemes all but impoosible
As I’ve noted on this blog several times, it is not what fund managers and trustees report as their estimate but what members see in their pot values – that matters. This blog will continue to press for the full transparency of actual experienced returns and not a proxy created using assumptions rather than outcomes.
The DWP are suggesting that
in order to provide greater transparency to members all relevant schemes, regardless of size, must publish net returns for their default and self-selected funds in the annual chair’s statement.
This suggests that net returns will become a common feature by which members, employers and fiduciaries can judge workplace pensions. I would suggest that they are also relevant to SIPPs and to value assessments from fund platforms.
Shortcomings of the net return approach
However, if we are to have proper transparency, we need to move beyond net returns and look at the internal or individual rates of return achieved by members. This is the only true way to measure the value a scheme can measure value delivered and it can be bench marked.
People are rightly concerned about whether they are getting value for money not at scheme level but in their pocket. While we agree with the thrust of the consultation to use value for money to help schemes consolidation, trustees need to be looking at value for money experienced by individual members.
The only way to assess returns that does this is bottom up, by measuring scheme returns by averaging the individual returns. The Net Return approach does not do this, it assumes that everyone’s experience of funds is the same – it never is.
Reporting will be against governance and administrative metrics
measures of administration and governance include:
- promptness and accuracy of financial transactions
- appropriateness of default investment strategy
- quality of investment governance
- quality of record keeping
- quality of communication with members
- level of trustee knowledge, understanding and skills to run the scheme effectively
- effectiveness of management of conflict of interest
Some of these metrics are easily measurable- (a study of internal rates of return will provide evidence of the quality of record keeping).
Others will rely on a finger in the air. How for instance can trustees measure the effectiveness with which they manage conflicts of interest without declaring a conflict? TKU similarly needs external measurement as does the quality of investment governance, but there are no authoritative independent agencies to establish good from bad. There is no standard, let alone a certified standard for any of these measures. As for the appropriateness of a default, what board of trustees is going to call itself for running an inappropriate default?
These are not matters that can be measured by net promoter scores from members of by trust pilot, attempts to provide DC schemes such as the PLSA’s Pension Quality Mark have struggled to gain acceptance for measures beyond the bar set for contribution rates.
The worry is that a liberal interpretation of value for these measures will be used to justify value for members even where net returns are poor. The DWP is cute in its observation.
The outcome should be a holistic one but made with regard to government’s statutory guidance
It is going to be important for TPR to take a strong hold on the term “holistic” and not allow consultants and lawyers to deflect focus on the main event – the outcome of pension saving in the member’s pocket.
As in the FCA’s CP20/9 , the purpose of the VFM assessment is not just to establish an absolute measure of VFM but to allow the trustees to see the scheme in the context of others. As with the FCA, the bench marking is proposed to set the scheme against comparison schemes that span the options available to employers when choosing a workplace pension.
41. For the purposes of the assessing costs and charges and net investment returns as part of the value for members assessment, each specified pension scheme must compare itself with three “comparison schemes”.7
42. We expect trustees to have a clear rationale for the schemes they have chosen as comparators. The comparators should include a scheme that is different in structure to their own, where possible. For example, bundled corporate pension schemes should look at an unbundled example, and pension schemes not used for Automatic Enrolment should not limit their comparison to other such schemes.
This will only work if the comparison are simple. Here is an example of net performance reporting from the Guidance.
Example 3: Arrangement with age related returns and returns which vary by employer
In this example, the scheme applies different charges to different employers, meaning that returns may vary between employees. Trustees do not need to produce multiple tables of returns but can instead provide additional information for each group of employers. The example below shows a scheme with four groups of employers who are charged differently:
Table shows employees in Group A.
Employees in Group B: add 0.05% to returns
Employees in Group C: add 0.15%
Employees in Group D: add 0.20%
Annualised returns % (if available):
Age of member in 2021 (years) 20 years (2001 to 2021) 15 years (2006 to 2021) 10 years (2011 to 2021) 25 x.y % x.y % x.y % 35 x.y % x.y % x.y % 45 x.y % x.y % x.y % 55 x.y % x.y % x.y % 65 x.y % x.y % x.y %
Annualised returns % (expected):
Age of member in 2021 (years) 6 years (2015 to 2021) 5 years (2016 to 2021) 25 x.y % x.y % 35 x.y % x.y % 45 x.y % x.y % 55 x.y % x.y % 65 x.y % x.y %
Much the same can be said for costs and charges and indeed governance and administration. I will be strongly responding to the consultation to suggest ways of simplifying this reporting.
What is the DWP’s big picture?
The consolidation section of the consultation comprises only one chapter of a 6 chapter consultation with 7 annexes and 2 impact assessments. Small wonder it was 19 months in the making.
The other chapters mainly deal with the introduction of alternatives into DC funds which is seen by Government as a positive. Alternatives include private equity investments and investment into what is variously known as “patient capital”, “infrastructure” and “impact” investments. The Government argue that these forms of investment cannot exist within the defaults of small schemes and that consolidation can ensure that more members get exposure to new forms of growth (with the positive social impact they can bring).
The consultation uses the imperative of getting these investments into DC defaults to dismiss calls for a more inclusive charge cap. Indeed the consultation into the charge cap is summarily dealt with in chapter 5 of the consultation and annexes F and G.
It would be easy to read this consultation as a whole and consider the point of it no more than to placate certain asset managers who are excluded from DC investment. This would be to miss the bigger picture.
Of much more relevance to pension savers is that pensions produce good outcomes by making their money matter. The requirements for TCFD reporting look beyond all but the best funded and most committed trustees.
Better returns need to be allied to better investment and implemented through better governance. By linking consolidation with an extension of the impact of workplace DC investment, the DWP may have pulled off something of a coup. For once this reads as a joined up document and let’s hope that when the FCA reports on its VFM consultation, the messages are equally direct and aligned.