Like Climate Change, Pension Consolidation isn’t something theoretical, it’s happening and at a great pace. I remember when DB transfers were at their peak (2018) people talking about what was to come. It had come and before the regulators had worked that out, the horse was cantering off into the distance.
Unlike Climate Change and unlike the tsunami of DB transfers in the late part of the last decade, the consolidation of pension schemes is not a threat but something to be devoutly encouraged. Most of the sub-scale DC schemes in the UK know they are likely to offer inferior outcomes to members and trustees are not holding their members or their employer sponsors to ransom. They are freely handing over their pensions to consolidators.
In this blog, I focus on the commercial advantages of consolidation and question whether they are currently benefiting members as they should. There are of course other advantages , than the economies of scale (specifically the capacity of large schemes to broaden and strengthen investment strategies. But consolidation should also bring lower charges to members and better facilities (such as retirement options).
I fear that much of the value is being too freely given to commercial master trust funders by employers who don’t fully understand the value of their gift
“Freely given”
I do not fully understand this phrase. The employer sponsored trust is in essence a mutual structure, it has no objective other than to provide benefits to members. In the past it was financed by employer contributions and where the trustees incurred expenses, these were met by short service refunds (if you left within the first two years of service, the employer contribution returned to a pot which paid the trustees and their advisers.
The abolition of short service refunds has meant a lot more small pots but it has also cut off the oxygen supply to the advisers who now have to bill the trustees who pass on these bills to the employer. Very few trustees now have their own budgets and can take decisions autonomously. This has changed the market – especially for consultants who are find it harder getting paid.
The consultants have moved from a pure advisory role to become the funders of DC master trusts, arguing that this is the most cost efficient way for employers and staff to get the benefit of their administration skills, communication expertise and best investment ideas. It probably is.
But what consultants offer is not is an employer mutual, it is a commercial master trust which is freely given assets by employers who – with the consent of their trustees, decide to wind up the employer trust.
Outside of pensions , this would be considered “de-mutualisation” and the owners of the mutual – the employer, might reasonably expect to be paid for the transfer of the asset. In this case the asset is the fund value of the scheme and the ongoing covenant from the employer towards the staff’s pension. This could be valued and paid for as a premium for consolidation paid to the employer, who could choose to pass this money on to staff or keep it for shareholders.
Inside of pensions, this premium is reflected not in a cash payment to the employer but in enhanced terms to the transferring members. If the RRP of a workplace pension is 0.75% pa as an AMC, any discount from that amount could be considered a premium. In practice , the “going rate” for AMCs is well below 0.75% and commercial master trusts compete for consolidation at much lower rates.
On the face of it, the competition for consolidation is benefiting members because employers are not demanding cash for their schemes. But I wonder if most employers are aware of the valuable asset they are giving away in the consolidation process and whether they should be driving a harder bargain. Just as I wonder whether employers who participate in multi-employer workplace pensions (to comply with auto-enrolment) realise the value of these contributions.
The value of the bargain
The employer is potentially ill-served by a consultant who is both adviser and purchaser. Where the consultant is bidding to become the fiduciary manager of the employer’s DC assets, it is in the consultant’s interests to downplay the value of those assets and the future income stream from ongoing contributions.
Smart employers, engaged with “selling out” their trust based scheme, should consider getting the scheme independently valued , prior to entering negotiations with consolidators. It makes no sense putting this negotiation in the hands of the one of the bidders for the value of your scheme.
But I fear many of the master trusts that are run by consultants have done just this and have found they have sold their birthright for a mess of potage.
Should commercial Master trusts be considered “fiduciary managers”?
The rules on the competitive tendering of fiduciary management are laid down by the Pensions Regulator and are explicit in what they cover. Fiduciary management does, under these rules, extend into DC trusts but only where the trustees are offering an investment mandate to a fiduciary manager.
But the consolidation of an “employer mutual” into a commercial master trust is akin to the granting to the funder of the commercial model, a grant of fiduciary management. After all, members are given no choice in the matter and are simply seeing one set of trustees replaced by another.
The ceding employer , even when in future participating in a master trust, retains some control. It could be over the charges paid by staff who are members, it may even be the employer retains control of the investment of their money (with the help of consultants).And the employer retains the right to withdraw further sponsorship of the master trust and transfer future contributions to another scheme.
But generally, the ceding of a single occupational trust in exchange for participation in a master trust , signals the end of employer control over the fiduciary management.
I don’t think that sufficient attention is being given to the commercial consideration to employers in this ceding of control and I sense that this is an uncompetitive market where employers, who the OFT consider “poor buyers” are being led by the nose.
Office of Fair Trading market study 2014.
Call to action
The table above and the chart below shows the state of the master trust market. It is at least a year ago as we know that Nest’s assets are £16bn today (rather than the quoted £12.7bn).
It shows how the market is dominated by a few large funders (mainly consultants and insurers) . Nest and Now , Smart and People’s Pension are the main providers to smaller employers operating Auto-enrolment.
Lifesight (Willis Towers Watson), Atlas (Capita), the Mercer and Aon master trusts plus Nations Pension (XPS) are the main consultancy funded schemes. These schemes are primarily consolidators and don’t depend so much on auto-enrolment (employer covenants are AE+).
Legal & General, Aviva , Standard Life and to a degree Aegon and Scottish Widows are operating in both spaces and working with consultants to offer bespoke sections of their schemes to consultancy driven bespoke defaults.
My concern is that the regulators will only pick up on the implications of this transfer of value to master trusts after it has been completed and that many master trusts will have grown fat on poorly negotiated deals with employers. Some of these deals may need to be considered for conflicts (especially where consultancies take over the management of assets without a proper tendering process).
However, all is not lost. The ongoing role of employers in funding master trusts means they can and should have insight into the management of the schemes they fund and here “value for money” considerations can and should be strengthened. Mandates to asset managers need to be tested periodically, administration similarly. We can’t go on measuring value purely on the asset manager’s reporting, it needs to be tested at member level with reference to internal rates of return achieved. There needs to be proper benchmarking against a standard (a replacement of caps median) and there needs to be commonality of reporting.
All this needs to happen fast and needs to be driven by Government and its regulators.
The consolidation of the workplace pension master trust into a few mega schemes is good news for consumers, but only if it results in value being passed on to members.
