Master trusts must lower variance in investment returns and bring fees down, UK commission says
The UK’s second pensions commission has found that savers with similar outcomes can pay fees ranging from about 0.1 per cent to more than 0.5 per cent depending on their employer (Chris Ratcliffe/Bloomberg)
The second Pensions Commission is calling on UK master trusts to reduce disparities in both charges and investment performance after finding that savers with similar outcomes can pay fees ranging from about 0.1 per cent to more than 0.5 per cent depending on their employer.
In its interim report into the future of the UK pensions system in the run up to 2050, the commissioners found there was "widespread differential pricing" in the UK defined contribution market.
More than two-thirds of multi-employer schemes are "charging different prices to different employers and therefore identical savers who just happen to work for different companies", the report notes.
"This behaviour was foreseen by the first Pensions Commission and it is difficult to see a justification for such a spread of outcomes," the commission says.
By comparison, the report points to Sweden's $161bn AP7 which "has charges closer to 0.1 per cent". It adds that as greater scale and consolidation in the UK marketplace creates efficiencies, it is "important these benefits are passed onto consumers".
Variability in investment returns
The new Pensions Commission was formed last July to consider ways to encourage retirement saving and reduce pensions inadequacy.
Its interim report, which details the commission's review of evidence before a final version is published next year, intends to create a "new pensions settlement" for the UK by 2050. It follows work undertaken by the first Pensions Commission in 2002, which paved the way for the creation of auto-enrolment in 2012.
Along with fees, the report also found greater variability in investment returns among UK master trusts than seen in Australia in the five years running up to 2023.
In the UK, the highest-earning master trust had a net annual return of 10.6 per cent, the report notes, but the industry low was 2.8 per cent. While average returns in the UK were marginally higher than among the Australian funds (5.8 per cent versus 5.7 per cent), there was far less return variability in Australian annual returns.
There, the top fund achieved a five-year average return of 7.8 per cent, while the lowest generated a 4 per cent average return.
"Variance in investment returns is wider in the UK than in comparable countries and can greatly affect outcomes," the report notes. "Just a 1 per cent increase in annual rates of returns could deliver around a 30 per cent increase in the size of a defined contribution pension pot at retirement."
Long-term investing and compound returns
The report highlights the reduced ability of UK pension funds to take on long-term assets, arguing that these types of investments could benefit both savers and the domestic economy.
"Pension saving can also support growth by supplying long‑term capital for investment in the UK economy. However, the way pension assets are invested has changed markedly since the first Pensions Commission, weakening this link," it finds.
While defined benefit schemes have matured and de-risked in recent years, DC funds "remain heavily invested in listed global equities rather than private assets that typically require longer investment horizons and higher upfront costs".
“Variance in investment returns is wider in the UK than in comparable countries and can greatly affect outcomes”
This means a reduced flow of investment capital into domestic assets like private equity, infrastructure and "innovative" start-ups, it says.
The report also highlights the importance of long-term compound returns in delivering adequate retirement incomes.
Its modelling shows that a typical male saver contributing a total of $38,000 over the course of a career could accumulate a pension pot worth around £124,000, in today's terms, with two-thirds of the final value generated through investment returns rather than contributions alone.
Generation X savers — those in their 40s and 50s — have less opportunity to benefit from long-term compound returns than younger generations because they are closer to retirement. "Efforts to address levels of inadequate DC savings in the coming years will have less impact on them than subsequent generations," the report notes.
"The missed opportunities for early career pension saving among Generation X become even clearer when one considers the ability of compound investment returns to deliver around two-thirds of the value of DC pension pots over the course of a working life," it adds.
Retirement burden shifts on to savers
Andrew Zanelli, head of technical engagement at Aberdeen Adviser, says the report is a "timely reminder that retirement planning has become significantly more complex over the past decade".
He says savers were "increasingly expected to make difficult decisions around pension access, tax, longevity, investment risk and later-life care, often without the support or understanding needed to navigate those choices confidently".
"The long-term direction of travel is clear. People are living longer, retirement journeys are becoming more complex and individuals are carrying more responsibility for financial outcomes," Zanelli adds. "That makes professional advice, strong planning frameworks and modern integrated technology more important than ever."
Helen Ball, a partner at Sackers & Partners, a legal firm that provides advice to pension trustees and employers on pension plans, says further scrutiny will be expected when the Pensions Commission's final report lands next year.
She says that while "we now live in different times with an ageing population, shrinking workforce and future affordability headwinds", other challenges "remain the same, as shown by the commission's objectives relating to adequacy, intergenerational fairness to taxpayers and sustainability".