I thought about calling this blog the “cult of complexity” as in modern English, a cult is a social group that is defined by its unusual religious, spiritual, or philosophical beliefs, or by its common interest in a particular personality, object, or goal
The social group I have in mind is the group of consultants who dominate orthodox thinking on how workplace pensions are designed ,measured and “drawn”,
This cult has one goal, which is to perpetuate their omnipotence. The strategy is simple – pension consultants have set about and largely succeeded in controlling everything – right down to the laws that govern their activities. Such is the power that they yield that we do not even notice that they are there. But their influence on our pensions is universal and often very unhelpful. They are responsible for the curse of complexity that makes pensions so hard for ordinary people to get to grips with.
Attempts to define the pension benefit – suppressed
Once upon a time , pensions were very simple. Defined benefit pensions were designed to cost employers a certain percentage of payroll and the people who managed the pension had the simple objective of funding pension promises with their best endeavors. The single discount rate that measured liabilities was used to ensure that the enterprise balanced the needs of members for a wage for life with those of sponsors for a means of rewarding loyal staff and ensuring succession from older to younger workers. The whole shooting match could be defined by what Con Keating calls a Contractual Accrual Rate. The CAR underpinned the underlying agreement between employer and staff of what could be delivered. It was based on a faith that over time, the assets committed would meet the liabilities.
Then came consultants and then came trouble. What has happened over the past thirty five years has been the breakdown of the faith in the CAR as intermediaries have worked their way between employer and staff and redefined the CAR as a contractual guarantee. This has taken away the old agreement for both sides to do their best and replaced it with a contractual obligation on employers. This has suited the consultants very well as they now hold all the cards. They have convinced the Pensions Regulator that it is in the interests of the common weal (and especially the PPF) that these contractual obligations are enforced.
The result is that open pension schemes that were designed for perpetuity have become closed pension schemes on a glide path to oblivion. This chart shows how abandoning the CAR in favour of pensions lockdown has destroyed what Frank Field in 1997 could still call one of Britain’s economic miracles – a funded pension system that delivered. Space doesn’t permit to explain the intricacies of the evisceration of the contractual accrual rate, but this picture explains its impact.
Attempts to revive the definition – suppressed
In recent times there has been an attempt to revive the contractual accrual rate , this time by explicitly stating that the defined benefit of a pension is a promise based on best endeavors and not a guarantee. We call it today “CDC” but – as the picture shows, it is a reversion to the old single discount rate of DB -when pensions were simple enough to be explained and understood.
This simplicity is not to be tolerated by consultants who operate a cult of complexity. The curse of this complexity was clearly in evidence at a recent meeting of the Pensions Network where a variety of advisers cursed CDC, primarily because it gave far too little opportunity for advice. A few days later we were lectured by John Ralfe who used 40 minutes and 40 slides to explain how the harmony at Royal Mail was based on a con, where one set of postal workers were ripping off another because the future could not possibly be as bright as the past.
The “lockdown” of CDC is well underway and (with a few well known exceptions) it is being suppressed by investment consultants for whom it represents precious little opportunity for control.
Attempts to link defined contributions to pensions – suppressed
DC pensions were originally called “money purchase” because they were designed to purchase a pension annuity at a certain point in the member’s career – the point when they had saved enough to stop work. This was never a great idea as it relied not on the old single discount rate and the CAR but on two moving parts – accumulation and decumulation, which needed to be married by some financial mechanism. To begin with the control of this mechanism was put in the hands of insurance companies who operated retirement annuity contracts that retained a link between the contributions and the benefits through guaranteed annuity rates that underpinned saving with an element of insurance.
The Equitable Life overcooked the insurance and were caught out when a period of high interest rates came to an end at the end of the last century. This gave the consultants their chance and their answer was to unbundle the contractual accrual concept even further. Not only did they strip out the previously integrated investment and administration of the pension scheme , but they broke the remaining links between contributions and pensions by dismantling “with-profits” and replacing it with a market value approach where savers were entirely exposed to the volatility of the markets in which they were invested.
This enabled consultants to introduce the practices of “de-risking” into DC, which they had pioneered in closing down DB. The lifestyle matrices that became fashionable 20 years ago and still sit within workplace pensions, were the replacement for the guaranteed annuity. The idea that when annuities were expensive, lifestyling would deliver funds to pay the high price and when they were cheap, the lifestyle program would not deliver much – not much being needed.
There was still a small vestige of the contractual accrual rate in the life styling program but even that was to go. DC was becoming a source of wealth rather than an insurance against living too long and wealth management suited advisors rather more than social insurance. Hence the self-invested personal pension which didn’t target a pension but provided a capital reservoir for the well-heeled
Is the self invested personal pension – the high-water mark of pension complexity>
Suppressing pensions altogether
As you follow my narrative, you can see how consultants had suppressed the old contract based on a best endeavors accrual rate , first by introducing the guarantee within DB schemes, then by strangling its re-birth through CDC and finally how they unbundled DC introducing the concept of wealth management as the end of the pensions journey.
The coin dropped for me at the aforementioned meeting of The Pensions Network when a member of the Zoom crowd asked what opportunities for “advisers” existed in a CDC plan. The answer – pretty clearly stated – was “not many”. DC is now a playground for investment consultants to rake in fees from organizing beauty parades for employers who like to believe pensions are still something they are in control of. The beauty parade also ensures that the consultants control the offerings of those providing workplace pensions, many of whom are now consultants themselves. Even the insurance companies are having to dance to the consultant’s tune, producing products to the consultant specification and reporting on pensions to consultants rather than sponsors.
The employer is given the impression they are in control, but as one of my friends who runs the pension affairs of a global car manufacturer put it “workplace pensions is the only area of procurement and governance where the employer has no control at all”.
The final break between the employer and staff was broken when pension freedom arrived, ensuring that nobody ever had to use their money to purchase a pension. The pension freedoms market the total victory of consultants in their attempt to destroy the contractual accrual rate. The link between contributions and pensions was now completely broken, as was any pretense that employers were providing their staff with a wage in retirement. Pensions were now an employee benefit and not even an insured benefit, they have as little to do with social insurance as an employee share scheme.
The cult of complexity
Pensions are now far too hard to be understood by employers, let alone their staff. Employers need consultants and staff need advisers.
We have regulators who police the system on the look out for unauthorized advisers but seem incapable of returning pensions back to the people for whom the private pension framework was originally designed for. The RDR, FAMR and now the investment pathways, are attempts to help people act for themselves but it’s unlikely that any retail regulation can deal with the curse of complexity. It is by now systematic and can only be reversed when it’s accepted that 90% of us have no intention of paying advisers to tell us what to do.
The cult of complexity – which has prevailed over the past 35-40 years may now be at a high-water mark. I see signs from Government, that simplification has to happen. Auto-enrolment has shown that policy interventions can have beneficial impact , not just on saving rates, but on investment decisions (compare default pension investment to ISA “investment”).
But for Government to really turn back the tide, it is going to have to stop listening to consultants and advisers and start listening to the needs of employers and staff. That will take courage and it will involve tears at bedtime.
One final feature of cults which gives hope, they never last. Cults either become mainstream (very rare) or they burn or fizzle out.
Maybe we are reaching the point where the cult of complexity and the cult of the consultant has so overwhelmed the object of its attention that it becomes the thing it set out to advise on.
Consultants are now running a good part of the pension system. They control DC and DB pensions through fiduciary management, they control large parts of the regulatory system and they are highly influential in the creation of legislation. In my view this is unwholesome and deeply concerning. I am not the only person who has this view, but I may be one of the very few , independent of consultancies, who can articulate it.
Advisers are an endangered species. The population has dropped by around 90% since 1988. The disease of advice took many of them from us they were slow to react and failed to move to the safe haven of guidance.
The survivors are being herded into zoos, or consolidators as they are now know, where they will soon morph into restricted or vertically integrated pens by energetic and loveable collie dogs which once shepherded similar flocks into what was called “a direct sales force”
Was the John Rafle at the The Pensions Network meeting the same John Rafle whose pensions expertise very nearly brought the Pension Scheme he managed to it’s knees? I have to say I’d have gone a made a cuppa and ignored his piece from my experience of other things he has said/written…..
Dear Henry
Having watched and been part of the developments of UK pensions (DB, DC and State) for well over 40 years now, I must confess that I feel your criticism of consultants is rather unbalanced. The successive tightening of DB rules, which turned a best efforts promise into a cast-iron guarantee was led much more by Government than the pensions industry. Forcing schemes to pay revaluations and partner pensions added significnatly to the costs of the young, immature schemes, which did not show up for many years and was partly driven by the desire to force employers to replace benefits that were otherwise going to be provided by the State. Revaluation rates for GMPs were locked into ruinous increases after the 1995 Act, on top of which was the extraordinarily expensive requirement for mandatory inflation-linking from 1997, was another nail in the coffin at the same time as Government removed the dividend tax credits altogether. Consultants did try to explain how dangerous this was, but were ignored. Other Countries’ DB liabilities are not typically inflation-linked and, just with the recent furore over schemes being allowed to change from rpi to cpi – and the eye-watering long-term costs just that small change would impost – it is clear that the inflation protection, on top of all the other baked-in requirements, have made DB schemes extraoridnarily expensive – indeed their value is still not yet recognised properly. On top of the programme of QE since 2009, which I have tried to warn against for over ten years, the costs of pensions and their liabilities have soared by far more than any accompanying rise in asset values. That resulted in consultants moving away from relying on asset growth (as should have been the ideal way forward for remaining open schemes and those who were still decades away from maturity even if closed). So schemes have switched wholesale away from upside potential in assets like equities or others where there is an expected risk premium to deliver better returns, into supposedly ‘low risk’ bonds or sovereign debt, which cannot offer the long-term returns needed to meet the immutable past liabilities. Most consultants have now effectively become annuity brokers, giving up on managing assets and focussing more on managing liabilities, which is a recipe for failure, but will be brilliant for insurers in my view. They will go on to use these hundreds of billions of pounds of DB assets to invest in growth-producing projects which could have helped employers afford their liabilities and not plough so much into their DB schemes in order to remove balance sheet risk, thereby also weakening the corporate resource of those firms. Consultants were encouraged on this path by regulators who, instead of professionalising the investment approach of DB schemes and pushing for a little more flexibility, decided to focus on the supposed removal of risk. But removing the risk has also removed returns that would have helped reduce liabilities and deficits, because low-risk investments cannot keep up with the rising costs of inflation-linked liabilities, even if demographics improve. And as gilt yields rise, the asset base will fall whereas using those assets to invest in growth projects would have helped fix deficits.
On the DC side, the idea of locking into annuities at current yields, especially if inflation-linked, is again not in my view a sensible way to move forward. And locking into fixed pensions at low rates will take away the potential upside, so we need carefully managed approaches that encourage people to leave their pensions invested for as long as possible, use their other assets to draw on first and ensure that their money is being put to good use and build up more in pensions if they keep working longer, rather than ending their pension at age 55 or 60 as is so often the case right now.
CDC is also an opportunity for consultants, who will need to carefully assess realistic return, interest rate and mortality assumptions relevant to each scheme, depending on its workforce characteristics, but I do fear that there will be a danger of those allowed to transfer money out being able to select against remaining members because there seemed too little support for the concept of ‘risk margins’ being built into transfer values, to reflect potential future market weakness or unanticipated cost increases which will fall entirely on remaining members. Indeed, I have also called for reductions in transfer values from DB schemes to reflect current deficits, rather than future projections of full funding which have most frequently been used by consultants.
So there is a combination of faults leading us to our current position, and I still think consultants could be part of the solution, rather than being the underlying problem. In DC, of course, the role of ‘consultant’ extends to expert financial advisers and pension providers who can reach out to customers and help them understand the benefits of their pensions and investing for the long-term. Guidance is a good start, workplace financial advice should be part of an employee benefit program and mid-life MOTs could be adapted for regular 5 or 10 year financial ‘healthchecks’ to assess what path each worker may be on toward their later life income needs or goals.
Lots still to do, but the pension opportunity is enormous, if the industry adapts its thinking to harness the power of these vast assets in the interest of those who it needs to serve.
Henry, thank you for all you are doing to highlight important issues.
Ros
While we take different views on the role of consultants, we have the same view of what needs to be done!
Henry, I have only just read this article and in particular the 40 year summary by Ros and feel Ros needs backing.
I started my pensions career working for the L&G preparing funding “quotes” for new DB schemes in 1973, a time of the miners crisis, 3 day weeks and power cuts. At that time the new Josepth plan was being introduced to update the State graduated pensions top up to the State old age pension. However shortly after a new Labour government came to power and the feisty Barbara Castle wanted to improve pensions for all by introducing the State Earnings Related Pension Scheme (SERPS) and contracting out with GMP’s in 1978. This was the start of pensions complications, which Ros has alluded to with the subsequent many government dictated “upgrades”.
I was head hunted by a blue blood insurance brokerage in 1977 and became a “Pensions Consultant” designing and establishing pension schemes both contract and trust based. At that time there were very few Pension Law specialists, it was rare for a Pensions Actuary to actually visit Employers and “Financial Advisers” were in reality “selling” insurance investment contracts to generate commission. To improve and professionalise the selling of products and investments in the late 80’s LAUTRO (for Insurance products) and IMRO (for wholesale investments) were created to start a regulatory framework, that via the FSA, morphed into the current FCA.
Nowadays, Pension advice is dominated by Actuaries, Lawyers, & Wealth Managers, all of whom are the “new” experts in delivering “Pensions Consulting” advice. There are in my mind very few true Pension Consultants around and this has been the case for many many years.
So please don’t tar the “true Pensions Consultants” that remain with the vested interests that you have highlighted that are in fact those of the Actuarial, Legal and Wealth Management professions.
As Ros has finished her comments with a thank you to you, I also wish to say you have probably been the best thing that has happened in the pensions industry in recent times (last 10 years) along with AE, so please keep up your invaluable work, but in making generalisations please note there are normally exceptions around.
Well said Bob! Thanks for all your work too. Ros
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