The reforms are long on rhetoric – short on detail – they indicate a change in the regulatory approach from “risk-based” to “outcome-based” , from “cost to value” and from personal to collective. Key areas such as converting pots to pensions and the sustainable agenda are not in these Reforms. Taken together they could make a big difference to our pensions and how our savings matter to the society we live in. But without the buy in of the pensions industry – rhetoric will remain rhetoric. Nothing in these reforms is mandated.
Well flagged – the Mansion House speech offered no surprises.
The reforms had all been flagged in the FT and pension press. the news is in the success of Nicholas Lyons to sign up a further five workplace pension managers to the “Compact”. The Compact commit to investing 5% of their default funds to a Lyons “UK Growth Fund” which will source investments via the British Business Bank and be available for investment in some future form at some future date. Detail is sketchy and the question consumers should be asking , “who bears the extra cost?” , has not been addressed.
Who pays for the Mansion House Compact?
The Government may be expecting that consumers will be prepared to pay higher AMCs and meet the extra costs of transactions by paying more on their entire pot. Consumers and employers will be hoping that by putting up their hands, Aviva; Scottish Widows; L&G; Aegon; Phoenix; Nest; Smart Pensions; M&G and Mercers were accepting the cost would fall to the shareholder.
Speaking to an executive of an insurer who’s investment committee recommended turning down the chance to join the Compact, I got the impression that the decision had been taken on investment rather than commercial grounds.
That said, organisations outside the Compact will need to demonstrate they are adding value through a new Value for Money Framework, designed to encourage long term value over low cost. For the Compact will be much more than a marketing gimmick, it must establish at least a 5% allocation to UK Growth as standard, will peer pressure be enough?
Will VFM improve value or just encourage investment cost and charges to inflate?
The Chancellor made it clear that
a new Value for Money Framework which will make clear that investment decisions made by pension firms should be based on overall long-term returns and not simply costs
He is simplifying the situation. Pension Firms buy investment services that allow them to compete in an open market for new business. The buy-side (employers) are insisting on low-cost products. Putting up prices will make pension firms uncompetitive unless the framework for pensions is based on overall long-term returns.
After decades of price capping, firstly through Stakeholder Pensions , latterly through AE Workplace pensions, the Government now want to reinflate the cost of investment to give room for productive capital.
But the central problem remains unsolved. Unless the buy-side changes its purchasing criteria, there will be little commercial incentive to include more expensive product within workplace pensions. This is why there has been a change in direction during the VFM consultation towards employers rather than pension firms (and their trustees).
Where there is no competition for new business, there is a further question as to why an employer would accept an increase in workplace pension costs as a result of more ambitious investment strategies. It’s a big ask for the VFM Framework to win such arguments. However it is at the heart of the Mansion House Reforms and is unlikely to become a “cost ticking exercise”.
Expect the Government to use VFM as its tool to leverage productive capital into pensions. It is unlikely that the extra cost will be absorbed by pension firms, employers and consumers will have to get use to higher prices for better potential returns.
The carrot being dangled is an extra £1,000 pa in pension, this number is highly speculative but indicative of a new approach to pensions where taking more risk is considered essential to getting “the pension we want”.
Should LGPS to do more of the heavy lifting?
Right now, some of the LGPS funds use available investment pooling and some don’t. The intention of Government is that all use pooling and that what started “levelling up” has developed into “an ambition to double existing investments in private equity to 10%, which could unlock £25 billion by 2030”.
Questions about the need for multiple pools, were not addressed, but it’s clear that the direction of travel continues to be “more pooling and more ambition in investments”.
LGPS is a victim of its own success and is being asked to do more, because it has done it before.
New ways of paying pensions will be encouraged
It would seem the Chancellor has chosen not to intervene in the investment of DB pensions (which prop up the longer dated and inflation linked gilt markets).
Instead he is promoting two alternative pension structures. CDC is to be “encouraged”, suggesting that Government will be hands off in its development. The Pension Superfunds, which have languished for five years without a clear approval process, are finally to get their own Regulatory Regime.
So DB trustees considering handing over assets and liabilities to insurers, will in future have the choice of having assets them managed by a new kind of defined benefit scheme, unconstrained by insurance solvency and therefore open to investing in asset classes such as private equity.
By breathing oxygen into the embers of pension superfunds, they may at last catch light and offer DB trustees an alternative to “buy-out or struggle on”.
The Reforms also hint at a new role for the PPF, either as a self-sufficient growth fund or a superfund or as a backstop to allow DB schemes to take more risk. My impression is that the Government are not looking to get corporate DB pensions to take on more risk, so PPF reform is more likely a means to strengthen the PPF to become more of a consolidator than a lifeboat.
What’s the verdict?
Risk is back. The Mansion House reforms are about increasing the opportunity for growth in people’s retirement incomes. The emphasis is on making DC better , encouraging CDC and pension superfunds – even the PPF – to take more risk.
DB schemes which have the capacity to take risk (LGPS) will be encouraged to be more ambitious . The emphasis is on equity investment – principally private equity. Private Debt is not part of the Growth Agenda.
The Government is asking the DC pension firms to start promoting value rather than price as their competitive advantage and the Government is making it clear that those who can’t demonstrate value, will cease to be. This will also go for the trustees of nop-commecial DC trusts.
Positive responses to the Reforms have come from the British Chamber of Commerceand privately from investment managers active in private markets. There has been little response from the Pensions Industry though we expect to hear from Steve Webb this morning at a Pension PlayPen coffee morning . Webb was at the Mansion House for the speech.
The success of the Mansion House Reforms will be in both the carrot and stick that Government employs. It has a Pensions Regulator , the FCA and both the DWP and Treasury appear to be playing on the same wicket.
I remain to be convinced that the pension firms and associated industry are ready to take on more risk, switch from “money” to “value” and take on risk as they are being asked.
But I wonder about the consequences if they don’t. The Government hold some important levers – not least tax.