Torsten – Pension Minister

I think it’s important to make a statement from time to time, if only to yourself, about what your work is about. I’m seeing some influential people next week and hope that my views are in line with theirs and that we can work together to make pots turn to pensions and give us savers value our money.

Here is the agenda that I want to have discussions over, excuse me for being a little wordy, many would kick off with a couple of graphs but I believe we think with words as well as pictures.

So let me be clear “Pensions come from our DC Pots” when we use our imagination and the important economic system we live in – capitalism.

Capital is available to back pension schemes, it is the basis of securing pension superfunds and will be the way for default decumulation funds to pay pensions to those who do not choose to have their money back “their way”.

Capital can be held in buffers that ensure a DC scheme has a means to offer defined benefit pensions. This is what Nest wants to do for its 14m savers and it is what millions of other savers will do with their non-Nest workplace pensions, they will get a pension with a capital buffer ensuring that in bad times they do not lose some or all of their income and in the good time, they get a share of the surplus if surplus has arisen within the decumulation fund. The surplus from the buffer rewards members and it rewards the providers of the capital- the sponsors and the banks who put the money up.

On top of the rewards for the members and the capitalists are the providers who manage the funds people transfer in to pay them pensions and the money in the buffer. This delivers funds and assets under management and ensures that providers are rewarded for providing us with pensions,

It is possible to see whether too much money is being paid to reward the capitalists and the providers and too little pays pensions and bonuses to members. On top of this, value for money comes from the proper investment of funds. VFM will be measured and those who offer it will succeed in attracting money, but they cannot over promise, that’s happened in the past and the result has been failures – TPR and FCA cannot allow this to happen.

Over the years , I’ve established an 80/20 rule where 80% will do what the default option allows them to do – NOTHING. Now the default option is going to be a pension. The other 20% will want to choose and choose the type of decumulation that’s right for them. They may choose a different level of risk (CDC or DB?), they may want the flexibility of drawdown, they may want the brand values of annuity. Even if their choice offers less VFM, they may choose it because VFM for the 20% who choose is their VFM.

Technology will be around – is around with AgeWage – to compare pension and annuity rates and will help people understand the differing levels of reward and risk if you DIY with drawdown or choose to use some or all of your pot to buy a CDC pension. The way Nest talk , I see most of those 14m having some pension and some CDC (indexation being conditional on markets). We might bring back First Actuarial Muppetometre for those who want to take their pot as cash!

Ok – that’s the pot to pension sermon over! What about Value for Money?

People do not buy annuities because they are Value for Money, they do things that make people happy – sleep well – pay bills – not have to worry. Everyone loves being paid an annuity, they just don’t see them as value for their money. That’s why we had such joy in 2014 when George Osborne said we didn’t have to buy one with our pot.

We do expect out pension as being paid as value for money. I do not hear people in DB plans complaining as they do with annuities. People get that pensions use “best endeavours” to maximise pensions and it will quickly become clear that pensions are offering more value for our money than annuities.

The key is the conversion rate offered for pots to pensions (compared with the rate for pots to annuities). I could go into some detail about the key areas that will make a difference but let’s simplify it – it’s about how your money is managed and how much is taken from the rate to pay the expenses of providers and capitalists.

Profits paid on top of the pension could be considered CDC (as they are market driven and relate to a single defined contribution made when purchasing). The amount of profit you get will tell you how well the fund is growing and their will be some growls from pensioners who find them missing out on bonuses and/or indexation. The long term VFM emerges from the distribution of profits to members.

We need to find a way to help ordinary people recognise that the market driven element of what they’ll call a pension is hot stuff, it can warm you and it can burn you. VFM has to measure the risk-adjusted performance of a decumulation fund both in terms of pay-out and in terms of security.

We will find decumulation funds that distribute profits on a CDC or market driven basis, having to be transparent who is getting what, what percentage of outperformance of the buffer is paid to members, what to the capitalists (ok I’ll call them sponsors but I hope you get the picture).

We will also need to understand how the finances of the fund work, how much is being taken through the AMC to pay for investment, how much is being taken at the conversion of pot to pension to meet the provider’s costs (and the needs of shareholders etc). If this is worked out properly, no problems with the regulators, but if too much or too little is being taken, then the fund could blow up for lack of money or shrivel as no one goes into it because it’s showing too little VFM.

It will be possible to measure how the fund is doing by comparing the internal rate of fund (IRF) with the Statutory Money Purchase Illustration (SMPI) – a Government instigated way of illustrating pension from pot. Because the SMPI is based on annuities, it is likely to be a conservative measure and most pensions will show positive VFM compared to it – most of the time. It is a starter VFM comparator – more will follow.

No doubt VFM will be corrupted by providers who try to hide poor returns by trumpeting member support. We see this all the time in DC and even in the provision of annuities rather than pensions  by bulk annuity providers.

AgeWage has, since we started in 2018 – produced data driven VFM reports on people’s DC accumulation with a number. We want to do this in future using a system that everyone agrees and uses that can be sophisticated for knowledgeable bulk purchasers and as simple as an individual (or bulk purchaser) wants. We want everyone to understand the basics with a number. Some may want more.

Here’s the kind of simplicity we’ve achieved for saver’s VFM. We want nothing more complicated for starters.