Choosing strong pensions for your workforce.


In an earlier blog I explained  by means of a metaphor about letting big trees grow by removing the deadwood from the forest, how Government is expecting to get people out of the grey box and into the yellow blue box (the yellow box being those who get average pots, the blue box being where we’d want our pot to end up).

But will the big trees deliver?

The problem with any harvested crop (including trees) is the temptation to harvest too much too soon. If you run a workplace pension (the technical terms is “fund”) then you are growing your tree for the long term- the returns however can be harvested earlier but that may be at the expense of the sustainability of the forest, you need to be patient – as with trees – as with capital.

But capitalism isn’t typically very patient, which is why this is so fraught.

Let me explain the economics. It is possible for a workplace pension to charge customers 0.75% on a growing pot but only spend 0.01% on investment management. A big customer of a BlackRock or StateStreet or LGIM can get money managed for free (often with a deal which allows the fund manager to make money elsewhere (stock-lending for instance).

So what happens with the other 0.74%

Most of it goes into managing the administration of contributions , the production of statements, the paying of levies and the management of support to employers and members of the scheme. It is only when funds get big (and big is measured in billions of pounds) that the 0.74% starts building up profit for the funder.

This process of buying cheap and selling not so cheap is how funders make money and the workplace pension platform allows them to offer funds with high mark-ups that do little more than take a position on a chosen market. But fund management can and should be better than that – that is what Government is beginning to say and it is what workplace pensions like Nest are responding to. Nest is committed to investing in a way that helps Britain reduce its carbon emissions and last week announced the first part of a multi-billion pound investment in illiquid investments that will do more than that.

But doing more than can be done for a dirt-cheap tracker means paying more for the investment management and that means taking a slice of profit out of the platform’s margin. That can be done by Nest because Nest has the strength of a billion pound loan from the tax-payers to bide it over the next few years. But not all workplace pensions have that kind of clout and not all can afford to be that patient. Many workplace pensions are owned by shareholders, some public , some private but all looking for a return on their investment.

The question is whether the schemes are strong enough in themselves to invest for the long-term and satisfy their shareholders and the regulators (who need to see financial resilience in the funder’s accounts). In theory, mutuals like People’s Pension and Evolve should be at an advantage over PE owned platforms like Cushon and Pension Bee, but that’s not necessarily the case. People’s has taken on a lot of very marginal business through auto-enrolment and parent B&CE has had some less than happy excursions into healthcare that limits its current capacity to invest for the long term.

Infact the financial strength of each of the “big-tree” providers has to be assessed both on their current balance sheet and on the commitment of the parent to fund for the future. The massive insurers – L&G, Aviva, Scottish Widows and Aegon – all of whom have master trusts, are much better set to commit for the long term than many of their competitors, though that commitment tends to waiver. There is a third group of big trees, those funded by consultants – Lifesight, the Aon and Mercer master trusts and several other smaller schemes run by XPS, Creative and Capita. All of these have their own financial issues which will enable or constrain them for the future.

The question for Trustees is “how hard can we push”. In an ideal world, pension funds would not be constrained by the commercial considerations of funders and trustees would invest where they liked and , within the constraints of the charge cap, pay what they liked for that investment. But commercial life isn’t like that, trustees have to behave with due regard to the sustainability of the scheme which depends on the funder’s continued capacity and willingness to play ball. This is all very familiar to watchers of DB schemes.

The lesson to be learned is that financial strength, market commitment and investment expertise are all on the side of bigger schemes. It is they that can afford the governance to make patient capital pay. Patient capital has got the capacity to push us into the blue zone of my chart, but it needs to be deployed and deployed wisely.

The importance of being in the right workplace pension has never been so great. When Pension Playpen started out in 2013, auto-enrolment was all about contributions, now investments are taking over and in years to come it will be about how schemes can both invest and return money to members as pensions. In this evolving world, the need for strong Government as well as strong governance, is critical.

About henry tapper

Founder of the Pension PlayPen,, partner of Stella, father of Olly . I am the Pension Plowman
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