Insight one “money” is not – “costs and charges ” but “contributions”

There came a  moment , as I was reading the DWP’s Value for Money Consultation that you realised that something has changed. For me that moment wasn’t this info graphic

It was this sentence

We expect this will result in all pension savers receiving value for their money.

Until now, the concept of VFM has been about the scheme functionality (product features) purchased from the AMC. The better your product, the more likely you are to save more into it and the lower the AMC the better value you are getting for the product. The measure of success for a scheme’s VFM was of more interest to the shareholder than the member.

But the new formulation defines “money” not as the amount paying for the service but as the amount paid into the pension meaning that the equation shifts to a measurement of return – how much money will I get at retirement relative to what I put in.

This is a light bulb moment for regulators.

Insight two – you can and should tell members if they are not getting value for their money

Jonathan Stapleton of Professional Pensions sat in the front row of the DWP launch at the PLSA’s Chiswell Street’s office. He asked the first question.

Would TPR’s powers include the power to contact members of a scheme with poor VFM to tell members they were not getting value for money?

The response was precise but non-committal – let’s see what the consultation tells us – but the tone of the consultation itself suggests that this is just what tPR would be empowered to do. The question was a lot more serious than many in today’s audience thought.

The consultation does recommend that where trustees or IGCs find that VFM is not achieved, this should be communicated to all members (para 172 Table one – Jon).

Insight three – not all VFM measurement is equal.

We know that some IGCs are less effective than others and we are also concerned that some trustees may have lower standards in assessing value in comparison to others^[footnot

In 2020, the FCA accepted that some IGC VFM formulations were better than others but this statement suggests that the FCA sees some IGCs simply don’t do assessments properly. This is a third insight of great importance, the IGCs are being given another month this year (reporting now in October) to adapt to the requirements of the Value for Money Framework. The Government and its regulators are not hanging about.

And both trustees and IGCs may have no alternative to pull the trigger on schemes which fail members

we are considering whether the VFM framework could place a statutory requirement on trust-based occupational pension schemes to consolidate following repeated ‘underperforming’ assessment results, where this is in the best interests of savers. We are considering a related requirement in FCA rules on contract-based providers to improve or consider transferring savers, where this is in the best interests of savers.

The paper also links the VFM framework to the small pots initiative, implying that small pot consolidation problems go away , if failing master trusts combine with those offering better VFM. This is a brutal way to bring pots together but – considering current progress – maybe a necessary one

This is more than observing Australia, this is Australia.

The fiduciary and consumer duty prevails

For workplace personal pension schemes specifically, the VFM assessments carried out by IGCs are embedded in FCA rules for the Consumer Duty. A provider must use its IGC’s VFM assessment in the provider’s own value assessment

The VFM framework applies to legacy GPPs but not to EPPs and micro occcupational DC schemes (see my recent blog on TPR 2023 DC scheme survey)

This is going to have a much more pronounced impact on some insurers with large legacy books. Let’s hope that L&G got to this book before annuity funds imploded

Application of the VFM framework in driving consumer decisions (dashboard consolidation)

My concern with the value for money paper is not with scheme metrics but when they are used by individuals to assess their value for money. The dispersion of returns within a GSIPPs range of funds or even within the default fund – if life styled, means that people can get VFM from a failing scheme and vice versa. The saver in the growth phase of a default that lifestyles into gilts for the last ten years may not have received poor VFM.

So we have to be careful when the consultation calls for scheme based data to drive personal perceptions of schemes. A scheme is the sum of individual experiences, individuals deserve to know how they have got on regardless of the scheme. If the VFM framework is to help members using dashboards to understand the VFM of their various pots, then they need better information than the high-level information in a trustee or IGC chair statement.

I believe it is possible to provide net performance information for all savers in a scheme and that this is an essential governance function. No assessment of VFM can ignore the range of outcomes of members, trustees and IGCs should be aware of who are the winners and losers. I will return to the problems of adopting a “top-down” DB approach to performance measurement later in this blog.

General conclusion on the intentions of the VFM paper and the scope of the VFM framework

I applaud the DWP for the intent and scope of the proposed VFM framework which will have positive benefits in terms of improving member outcomes and reducing the costs of running literally thousands of unnecessary DC schemes. These costs can be better employed increasing pay – and thereby pensions or by simply increasing pension contributions. Identifying and force closing failing DC schemes should be within TPR’s powers. Helping individuals understand the value of their pension pots is critical to their engaging with pensions as any other asset they own.

By switching the focus of VFM from costs and charges  to contributions , the DPW and the regulators have moved the debate from the VFM as a marketing tool, to VFM as a measure of outcomes. The shift is in line with fiduciary and consumer duty and is fundamental.

The Government’s intention and focus is spot on. The VFM Framework is a good idea and should build on and then replace “value for members” and the FCA’s “VFM definition”. It is shows the FCA and TPR can work together on a consumer and fiduciary duty which I hope will become one duty building on treating the customer fairly.

Where things are still wrong –

Chapter 4 – Why are we measuring DC performance like DB trustees?

Where the consultation gets stuck is in chapter four – which deals with analysis of investment performance

a. Reflecting member outcomes

b. Enabling meaningful comparison

c. Supporting assessment of investment strategies

d. Allowing consideration of expected future performance

In her introductory remarks, the Minister for pensions pointed out that unlike DB, scheme returns are not important to individual savers, what matters to them is their return – since it is they – not the scheme – who carries the risk. The consultation accepts this

In our view, performance data is most useful when reflecting member experience.

The problem with the “how do we measure” value for money, is that it does not follow through on this. Performance measurement has always seen DC savers being treated as if they were in a DB scheme. It is not their experience that is disclosed but that of their scheme and not their  net performance that is analysed but the performance and charges of the scheme as a whole. Even if you break down the scheme into cohorts of savers you get only an approximation of the risks and rewards experienced by the saver.

And what you end up trying to measure is the multiplicity of factors that go into the internal rates of return of our pension pots. It becomes an impossible task. reading through section 4 of the consultation was like descending through circles of hell, each more fiendish than the next , “maximised drawdowns”, “annualised standard deviation”, “chain linking” lead to the not-so inevitable question

Do you agree with requiring disclosure of asset allocation under the eight existing categories for all in-scope default arrangements?

The answer to that question has to be no , because any stem of performance measurement that is designed to cover thousands of occupational pensions, workplace and legacy GPPs and SIPPs is not going to be able to bear this kind of analysis. The result will be what has happened with IGCs and Trustee Chair Statements, a fractured interpretation which leads to either wilful non-compliance or a system where every red orange and green assessment leads to a green.

Chapter 5- Do we need to separately disclose charges?

The problems with measuring performance are similarly there with section 5 dealing with costs and charges. Again the exam question appears to be “is the scheme offering a fair AMC” and the comparator is “other schemes with similar assets”. This leads employers down the rabbit-hole where they end up knowing the price of every scheme and the value of none”.

There is a role for isolating charges and discovering whether they are disproportionate to the services offered (performance and administrative) but this is not the primary focus. The primary focus is on what members are getting – performance net of charges. The disclosure of charges as a key component of the value for money assessment may do more harm than good. Again, we are only splitting out the charges in the way as a legacy of the way we manage DB schemes, a radical approach to DC value for money focuses on what members get and not on what they pay for getting it. The key definition for money is “contributions” not charges.

Chapter 6 – Quality of Service reporting

Instead of requiring schemes and providers to report on a large number of service metrics, some of which are qualitative, we propose that schemes and providers report on selected elements of service that are quantifiable.

This leads to the measurement of effective communication being confined to

• Percentage of members who update/confirm their selected retirement date, and how they wish to take benefits, and/or update their expression of wishes; and

• The outcomes of member satisfaction surveys, including the percentage of members who have completed the survey, the Net Promoter Score, and/or member feedback against a small number of standard focus questions.

The proposed assessment of scheme administration will be based on an analysis of the quality of scheme data and not on the hitting of service standards (too easy to game). It is good to see the DWP adopting an evidenced base approach based on member data here. If they were to do the same with regards investment analysis, then we could have a framework of value for money  which would be easier to implement, easier to use and more acceptable to employers and even savers!

A simple alternative to the complexity of chapter 4 (and 5)

Instead of the complex approach to value for money assessment, we need a simple way to measure performance of groups of savers based on the composite of individual experience with analysis of large quantities of their data giving insights into key questions such as “what is the value for risk taken?”, “what is the quality of member data?”, “how have “members done against similar groups of members elsewhere?”.

The means of comparison is of course vital and the paper is aware that benchmarking is going to be needed. It nods to the method proposed to the IGCs (which the IGCs seem to have avoided in 2022) where three scheme are chosen for comparison – with similar demographics but different governance structures.

But it also suggests that there may be a Government created benchmark (or series of benchmarks) to measure what is standard for the various components. This is the approach adopted in Australia and is data based. The benchmark is based on data from a range of sources enabling different types of governance structures to compare with each other without the risk of gaming.

Work has been done on creating such standards and – supposing we can move to a simpler means of measuring performance , costs and service, it is possible to see beyond the impenetrable complexity of sections 4 (and to a lesser degree 5).

Receiving value for your money

Although this consultation is aimed at experts, value for money is a consumer concept and DC saving is ultimately for savers not employers , scheme funders or insurers.

We must be able to explain how we measure value for money to ordinary people and though it may be difficult to do, we have to start with the saver’s experience and not adapt the way we have always done things – to a new way of providing retirement benefits.

DC is not the same as DB and measuring VFM for DC cannot rely on the tools we used for performance measurement for DB. This paper goes 95% of the way to getting things right but the 5% that’s left (chapter 4) is enough to sink the whole project.

Laura Trott at the PLSA yesterday