DC Pension Default Investments Meeting The Needs of Members. 14 May 2014

Transcription

1 DC Pension Default Investments Meeting The Needs of Members 14 May 2014

2 Agenda Our approach to pensions Some questions to consider: 2

3 The Company Finmeccanica is a world-class high technology leader in the aerospace, defence and security markets, employing 64,000 people Finmeccanica s presence in the UK is mainly through acquisitions from 2005 onwards, employing 8,500 people Perhaps the best known business is AgustaWestland the helicopter manufacturer The pensions culture is strong: Providing a decent pension is seen as a key employee benefit Our typical employee is aged 45 with 15 years service Many employees expect to stay for life 3

4 Scheme Design The quality of a DC scheme is largely reflected in the amount of money that goes into it The Company believes that pension saving is a partnership so the employer matches contributions Two for One The Company also provides additional funding to cover risk benefits (life and ill health cover) and some expenses Standard terms Employee Employer 1% 2% Autoenrolment 2% 4% 3% 6% 4% 8% 5% 10% 4

5 Employee Contribution Levels The most popular option among members is to pay 5% or more Auto-enrolment has significantly increased the proportion at the 3% level (previously 30%) The average contribution is 3.9% employee and 9.3% employer (including the employers 1.5% expense contribution) 5

6 An Approach to DC Investment Our initial DC investment solution was very simple (passive equity) but we became increasingly uncomfortable with the extreme difference in approaches: DC investment single asset class + hand it over to members DB investment multiple, complex asset allocation + high levels of engagement We consciously sought to apply principles from our DB experience to the DC challenge We consider that our DC members now receive an equivalent level of skill and attention to that which underlies the DB scheme The solution has matured to the extent that we have passed it back to the DB scheme so that the same strategy is deployed for our AVC options 6

7 FUND GROWTH Actual Potential? 7

8 Auto-Enrolment Results Prior to Auto-Enrolment 93.8% Post Auto-Enrolment 98.4% 8

9 Service Providers The current service providers are set out in the table below We have sought to appoint best in class where possible There are many in common with the DB schemes where the trustees consider there is advantage in common solutions Investment advisor: Administrator: Investment platform: Insurance broker: Lawyer: Auditor: Communications: 9

10 Questions 1. Why bother with pensions? (if you are an employer) 10

11 Why Bother With Pensions? Employers are typically exhausted by pensions: there has been too much change traditional DB schemes have proven far too expensive (in some cases causing the sponsoring employer to go bust) The common reaction has been to: get out of DB promises as fast as possible pass the problem over to an insurance company with fixed cost DC plans allow greater choice through flex recognising pensions are not the only savings vehicle (eg workplace ISA) But: many employees are making bad choices and won t be able to afford to retire the Government has noticed the problem and is asking (forcing?) employers to get involved 11

12 Arguments For Employer Engagement Pensions are a major cost: as with all HR expenditure it makes sense to ensure there is a good return on this investment outcomes need to be good and members need to be helped to understand this A good pension scheme remains the mark of a good employer: it can help to set the culture of the organisation it still has a role in retention of good employees (assuming this is a business objective) Lack of provision and the absence of a default retirement age are likely to create major employee relations challenges in the future The auto-enrolment legislation is forcing employer re-engagement and it makes sense to embrace the change 12

13 Questions 2. How much risk should members take? 13

14 Assumptions About Human Behaviour Herd behaviour Heuristics Homo economicus Framing Rule of thumb Rational decision maker Hyperbolic discounting Loss aversion Availability bias With thanks to Aon Hewitt 14

15 How Much Risk Should Members Take? For DC schemes the pension system has been built on the assumption that employees know what they are doing (with a few guides) and will make good decisions In practice even the most rational will make mistakes or be too busy to give investment the time it needs In our experience many members have the same, unrealistic risk aspirations they want: HIGH RETURNS LOW RISK Even if employees were rational there would still be market inefficiencies The buyer is significantly weaker than the seller because of the complexity Purchase and consumption are so far apart Employers can play a meaningful role by using time and expertise to correct these inefficiencies 15

16 The Virtue Of Default Investment The success of automatic enrolment means there is a huge weight of new money that will need to find an investment strategy Employers must make an investment decision on behalf of those who auto-enrol We have never been convinced by the mini-capitalist model with each employee buying and selling pension investments from their desktops We have encouraged members to use the default unless they are confident in making investment decisions 16

17 Questions 3. Who is looking after members? 17

18 Governance Focus Typically the switch from DB to DC schemes has resulted in lower governance standards DB schemes are under trust which means there is a significant governance burden in appointing and supporting the trustees in their exercise of duties In DC schemes the employer wished to escape this governance burden so the relationship was typically between an insurance company and the member, with the employer simply paying contributions across This is increasingly inadequate: The employer must make sure the joining process works or they are in breach of auto-enrolment duties Someone needs to set the default option on investment for those who don t make a selection Arguably there is a duty of care to make sure the terms offered by the insurer are suitable (e.g. charges) Regulatory codes of practice have a major focus on accountability, monitoring and compliance 18

19 Pensions Regulator Code Of Practice As a result of the auto-enrolment initiative, there is a lot of focus on the quality of DC pension schemes The Pensions Regulator has published a Code of practice (225 paragraphs) supported by Regulatory Guidance (125 paragraphs) 19

20 Comply or Explain Trustees are to issue a Governance Statement of their compliance with the code The Statement is due for 2015 but we are working on producing it one year early for all three schemes on a joint basis 20

21 Typical Contract-Based Structure Employer Employer pays contributions to insurer Employer promises a pension contribution Insurer Member pays contributions to insurer Member builds retirement account Member 21

22 Contract Structure To Meet Regulatory Development Evaluates default options and service standards Internal governance committee? Provider governance committee Employer pays contributions to insurer Employer Employer promises a pension contribution Consult and collect member views Insurer Member pays contributions to insurer Member builds retirement account Member Consultative committee 22

23 Alternatively Copy The DB Trust Model Trustee Employer Trustee runs the Scheme in accordance with the Rules Administrators and Advisors Employer pays contributions to Scheme Employer designs benefits structure for members Consult and collect member views Pension Scheme Member pays contributions to Scheme Member earns benefits from Scheme Member Consultative committee 23

24 Trust-Based Schemes We believe we are able to add value through our trust structure We can apply the purchasing power of a significant number of employees to generate provider interest and economies of scale We can apply lessons learned from our sister DB schemes, seeking equivalent standards of investment skill The involvement of member trustees and consultative bodies binds employee representatives into the process as pension champions and sources of feedback The same principles can be deployed for contract based schemes, through liaison with the provider and consultative/governance committees 24

25 Industry Certification The National Association of Pension Funds has sought to address concerns over scheme quality through its own certification standard This tests the quality of a scheme against defined criteria on contribution levels, governance, investment options, charges, administration and communications There are two levels of the standard for example: for the core level contributions must be 10% of pay (with 6% from the employer) for the plus level contributions must be 15% of pay (with 10% from the employer) Finmeccanica has been an early adopter of the standard which we use in all plan communications It is conceivable that the standard could become an employment differentiator (eg like Investors In People) 25

26 Questions 4. What should the strategy try to do? (investment objective) 26

27 Investment v. Contributions Assuming a member pays a constant level of contribution with each employer through their career is investment or contributions more important and when? 27

28 What Shape Of Return Would You Prefer? Calendar year (December to December) 28

29 What Shape Of Return Would You Prefer? Cumulative return since

30 An Investment Objective It follows that engagement of members is important: some providers argue that when assets fall it is a better time to buy them cheaply but this ignores behavioural economics if members can see the pot building they are more likely to keep going with or even increase contributions This means the long term objective needs to be real growth i.e. beating inflation by a target margin We should also have secondary objectives: test the return against the opportunity set in terms of market returns test if the return has been smoother and more predictable 30

31 Questions 5. How will the strategy do it? (investment beliefs) 31

32 Investment Beliefs We have developed views on investment strategy from our experience with the 1.4bn in our DB schemes We aim to work these assets hard to hold down the cost of pensions and believe the same effort can be applied for the benefit of DC members We understand that we are one of the first UK employers to introduce fiduciary management to trust based DC investment fiduciary management means outsourcing responsibility for more responsive, day-to-day investment decisions to a specialist advisor Our strategy aims to: Diversify sources of return. A range of asset classes that can be accessed cost effectively are deployed, rather than the traditional reliance on pure equities Rotate through asset classes. Greater risk control is generated by adjusting the asset allocation over time and avoiding falling or over-valued assets Stay on risk for longer. The better risk control means that the move into matching assets within the default strategy can be closer to the target retirement date within the same risk budget 32

33 Blend Funds These investment beliefs are implemented through our blend funds Our investment platform providers a fund in which the fiduciary manager can set and then change the asset allocation over time The long term performance target is real ie inflation plus Asset allocation for the long term growth fund (inflation + 5%) 33

34 Lower Risk Blend Fund Asset allocation for the Preretirement wealth builder fund (inflation +3%) 34

35 Lifestyling As employees move through their careers, the investments are switched from the higher to the lower target blend funds to lower the risk At retirement the money will be 25% in cash and 75% in assets that move with the cost of buying an annuity although this will be reviewed following the recent budget announcement 35

36 Investment Options In Full Default Option Long term growth Stable growth Pre-ret wealth builder Retirement protection Pick & Mix Be careful not to cause inertia through excessive choice Basic asset classes in passive form Equity Bonds Cash Plus core building blocks from the default option Long term growth Stable growth Pre-ret wealth builder 36

37 Questions 6. How much should it cost? 37

38 Charges Cap The Government believes a lot of value is leaking from DC from unreasonable charges It is known that some legacy arrangements have charges in excess of 2% pa typically because of deferred incentives from sales through intermediaries The common industry ceiling now is 1% as a result of earlier Government action The latest consultation highlights the impact of charges on member outcomes The Government has announced a legal cap of 0.75% for default funds There will be further work on defining charges to make comparisons easier and the cap may reduce further Our decision to have an explicit employer expense charge means it is easier for us to comply with this 38

39 Fund Charges Risk Level 1 AMC 2 Current TER 3 Group 1 Blend Funds Long Term Growth Inflation plus 5% % 0.70% Stable Growth Inflation plus 4% % 0.66% Pre-Retirement Wealthbuilder Inflation plus 3% % 0.62% Group 2 Passive Funds Global Equity Fund % 0.32% Corporate Bond Fund % 0.25% Fixed Interest Gilt Fund % 0.23% Index-Linked Gilt Fund % 0.23% Cash Fund % 0.27% Administration costs are currently met by the employer 1. Risk scale is from 1 (low) to 6 (high) 2. Annual management charge 3. Total expense ratio 39

40 Charges Consultation Currently FuturePlanner complies comfortably mainly because member administration costs are currently met by the Company However what really matters is net return ie how much pots increase by each year. High charges are fine if the outcome is better as illustrated below: Source: P-Solve; Bloomberg period since July The value of investments and the income from them can fall as well as rise as a result of market and currency fluctuations and investors may not get back the amount originally invested. Past performance is not a reliable indicator of future results. 40

41 Questions 7. How can you tell if it is working? 41

42 Investment Monitoring 42

43 Investment Performance Since inception pa 25 Oct 2011 to 31 Dec 2013 Fund return Short term target Long term target Long term growth 12.3% 13.9% 7.5% Stable growth 10.6% 11.6% 6.5% Pre-retirement wealth builder 8.6% 3.9% 5.5% Retirement protection 3.2% 3.9% Short term target is a measure of what markets are doing i.e. a diversified group of assets Long term target is a measure of real returns i.e. beating inflation plus 5%, 4% and 3% respectively 43

44 Member Factsheets 44

45 Questions 8. What should happen at the end? 45

46 Pension Freedom? The Government has announced radical changes to how retirement benefits can be taken They affect DC pensions in particular and introduces considerably more freedom They are likely to change the pensions landscape we know today and have implications for savings arrangements and even long-term care 46

47 Revised structure The range of options available to members is significantly simpler It is likely there will be innovation in retirement solutions For example: Annuities become an investment choice (rather than a forced purchase) Retirement income shaped to spending patterns ( U shape) Different annuity forms may develop for example deferred annuities as genuine protection for living too long 2. Stylised assumption 47

48 Impact on FuturePlanner A major review of the at retirement service is required evolving from annuity purchase to facilitated access to all retirement income solutions (including annuities and income drawdown) The default investment strategy will evolve for example: the off risk asset is likely to be a modest inflation plus target rather than annuity purchase The short term and volatility targets for the pre-retirement wealth builder fund is likely to change from an annuity base 48

49 Take Aways 49

50 More Information Is Available On The Website 50