At the risk of this blog becoming the poor man’s FT, I’m going to alert readers to Jo Cumbo’s excellent piece of journalism, published this morning , which asks this question and reports on calls from Dominic Lindley, Which and others to treat the way we are charged for spending our pension pot as we are for creating it. On the way up there is a charge cap that means that not more than 75p for every £100 saved can be taken out of our pot by the entity managing our pension pot. Cumbo reports that
Analysis of 28 drawdown providers last year by Which?, the consumer campaign group, found DIY investors could, in total, expect to pay between 0.5 per cent and 1.25 per cent in annual charges (including fund fees) for pension drawdown.
Around 200,000 of us started drawing down our pot last year and 2/3 of those who did , did so on a DIY basis. These charges matter because DIY investors are in a poor position to determine the value they are getting for their money and over time , the impact of charges on a fully-laden pension pot is huge
Over 20 years, taking 5 per cent a year out of an initial fund of £250,000 could rack up fees as high as £47,000 (Aegon) — £12,300 more than the cheapest options (Interactive Investor and Halifax Share Dealing, whose charges total £34,700) – the Which research shows.
The FCA’s binary choice
The FCA oversee what happens when a personal pension goes into “decumulation” , they need to ensure that what is being charged is commensurate with the value people are getting and it may well be that Aegon is delivering £12,300 more value in its product.
There are two ways that the FCA can prevent poor value for money. The first is to publish or require others to publish value for money information. This appears to be the route it is choosing to take.
The second is to impose a charge cap on the default drawdown option (e.g. the drawdown investment pathway). This is a route the FCA are showing no sign of following.
The FCA believe that disclosure of value for money can do the trick
It is harder to implement a charge cap on drawdown as easily as a charge cap on the savings phase of a pension, that is because the choice architecture people face when they decide they want their money back is so chaotic. While we all save in roughly the same way, the pension freedoms mean that their is no congruity in what we are doing in retirement and while 200,000 are withdrawing money from their pots from time to time, drawdown means anything from a few partial encashments to a structured attempt to provide a wage for life (see Don Ezra’s article in the FT).
It is also harder to pre-determine the value of the principal feature of a drawdown product – the engine – the investment strategy and execution of that strategy. This is because in drawdown, those spending their pot are exposed to an additional risk – that of their pot running out before they do. This risk is very real, especially if spenders get unlucky with the timing of early drawdowns which can so deplete the pot (if drawdown happens at the wrong time), that the pot never recovers. The death spiral that follows unlucky timing can lead to big later life problems – this risk is known within pensions as “sequencing risk” and to prevent it , fund managers employ strategies that smooth returns.
These strategies tend to be expensive as they involve diversification into hard to purchase assets and they require (according to fund managers) a lot of skill, all of which needs to be paid for.
Which is why value in drawdown should be measured not just by absolute returns (as happens in the saving phase where volatility doesn’t matter), but by risk-adjusted returns which take into account the amount of dampening of price-swings (volatility).
It’s all very well , me writing this in a blog, but getting the message about value to the people doing the purchasing of drawdown pathways are being given no information about the value of their products by the FCA – or frankly by anyone else.
The FCA has asked MaPS to publish a price comparison site for those doing DIY drawdown (and following other pathways). So far this site has only considered price and has little information which can help people decide on value.
But we think there is more to it than that. We think that organizations should be judged on their fund options risk adjusted and nominal returns achieved over the years they have been managing drawdown.
We’d like to see value measured on a consistent basis (the scores indicated are entirely fictional to illustrate what could be done.
We also think that propositions should be judged by a consistent metric of quality of service. Trust Pilot looks the most widely used metric but perhaps a better one could be devised with the help of those who measure these things for pensions (organisations like Boring Money).
What if no measure of value can be found?
IMO, most people will enter drawdown blind to the quality of the product they are buying , unless we can get a consistent measure of value (rather than simply price) into the public domain. It is good that the FCA is requiring MaPS to put up a comparison site, it is bad that the site is not addressing value – but that can change.
If however it doesn’t change and people continue to purchase blind, then the FCA may have to introduce a charge cap on drawdown. That , I suspect , would be considered within the FCA as an admission of failure. However, as the FCA oversee the activities of those who are supposed to encourage the disclosure of VFM (IGCs and GAAs) and are instrumental in the MaPS comparison site, they would only have themselves to blame.
We are long overdue the FCA’s response to its value for money consultation paper (CP20/9). Let’s hope that the delay in publication is because the FCA are addressing the disclosure of value in a rather more thorough way than we’ve seen to date.
Without proper disclosure of value , I can see proper way to protect consumers, than a charge cap on investment pathways. The ball is in the FCA’s court , but it is in the power of IGCs and GAAs who are overseeing investment pathways and their value to find ways to disclose value, to avoid the last resort of charge capping.