12 Throgmorton Avenue London EC2N 2DL Tel 020 7743 3000 Fax 020 7743 1000 www.blackrock.co.uk 28 November 2013 Charges Team Private Pensions Policy and Analysis 1 st floor, Caxton House 6-12 Tothill Street London SW1H 9NA By email to: reinvigorating.pensions@dwp.gsi.gov.uk Dear Sirs Re: Better workplace pensions: a consultation on charges BlackRock appreciates the opportunity to provide comments on the Department s proposals on workplace pension charging. BlackRock, Inc. ( BlackRock ) is a global investment manager, managing $4.096 trillion ( 2.537 trillion) of assets on behalf of clients as at September 30, 2013. BlackRock and its subsidiaries manage approximately 3,500 investment vehicles, including registered investment companies, hedge funds, private equity funds, exchange-traded funds and collective investment trusts, in addition to separate accounts. BlackRock Life Limited is the second largest provider of unit-linked pensions in the UK. In Europe specifically, BlackRock has a pan-european client base serviced from over 20 offices across the continent. Public sector and multi-employer pension plans, insurance companies, third-party distributors and mutual funds, endowments, foundations, charities, corporations, official institutions, banks and individuals invest with BlackRock. BlackRock supports regulatory reform globally where it increases transparency, protects investors, facilitates responsible growth of capital markets and, based on thorough cost-benefit analysis, preserves consumer choice. We believe this initiative will deliver lasting benefits to pension scheme members by focusing on the following themes: adopt a holistic approach looking at charges alongside quality standards and governance; provide meaningful transparency in a consistent format; focus on the value for money represented by the overall structure (including charges) of a scheme; distinguish between predictable management and administration costs incurred by the manager and unpredictable transaction costs paid by the manager; and provide for workable transitional provisions. Holistic approach to regulatory change We recommend that any new requirements which arise as a result of this consultation should be imposed in conjunction with any changes required as a result of the consultations on minimum quality standards and governance. The combination of these three sets of changes could deliver a powerful amendment to the current regime, and one which generates material benefits to all participants in the pension industry.
Transparency We welcome the attempts being made by the Department to increase the transparency and disclosure of charges across the pensions industry. However, any new obligations should only be imposed if their provision results in additional benefits being derived by end users and not, therefore, simply to generate additional information. It is essential that increased disclosure results in meaningful transparency. Achieving this means providing information in a consistent standardized format taking into account parallel regulatory developments such as: the ongoing charges figure in the UCITS Key Investor Information Document (KIID); the forthcoming Packaged Retail Investment Products Key Information Document (KID); and efforts by bodies such as the Investment Management Association to harmonise cost disclosures. Charges and value for money Of the options which are proposed in the consultation, we consider that comply or explain would provide the most appropriate mechanism through which to limit the charges which a pension scheme could impose. This will allow a pension provider to impose a higher charge if it provides due justification for the increase. The enhancements being considered to disclosure and transparency would then facilitate the provision of appropriate information on which an employer could consider whether the higher charge was consistent with the appetite of the employer. Charges and transaction costs We have concerns with providing a single figure representing all charges. The cost of ownership of a scheme includes: (a) administration costs; (b) ongoing fund management charges; (c) advisor remuneration; and (d) transaction costs. Advisor and transaction costs lie largely outside the control of the manager. Whilst we agree with the need to provide meaningful transparency there are a number of potential unintended consequences of including all costs in a single figure. We have particular concerns about the inclusion of transaction costs in any proposed charges cap. Successful schemes drawing in new members will have higher transaction costs when they invest contributions into the market than more mature schemes. We also note that investment into UK equities, whether on an active or passive basis, incurs a 0.50 per cent charge to stamp duty, which would represent a significant proportion of any cap. Finally, it is important to note that transaction costs do not benefit the manager as they affect the performance on which the manager is judged. Transitional periods The transitional period which must be available to the industry to implement the changes being proposed needs to be significantly longer than that which has been proposed. It is important to highlight that the introduction of stakeholder pensions in April 2001 followed the finalization of the legislation in November 1999, providing approximately 18 months from the point at which certainty was available to the industry to start planning for implementation. The proposals in the consultation do not provide for an equivalent lead-in. Such a short transitional period may pose an unacceptable level of risk of error, or could only be achieved at considerable cost, the burden of which may be passed on ultimately to schemes. It is more desirable to ensure that implementation is achieved correctly rather than in a short period, and for this reason, we strongly urge reconsideration of the implementation period and suggest that a two year window is available from the point at which the requirements are finalised. This has been borne out by our experience in implementing the UCITS KIID.
Our responses to the individual questions contained within the consultation are included on the following pages. We would welcome the opportunity to meet with you and discuss our comments in more detail. Yours faithfully, Neil Purvis Managing Director Head of UK Defined Contribution Business
BlackRock response to the Department of Work and Pensions Better workplace pensions: a consultation on charging Q1 Q2 We would welcome views and evidence on the effectiveness of these initiatives and the extent to which the industry discloses charges upfront, in a consistent manner, to members and employers. Is further action required by the Government to improve disclosure and if so which of the options should be introduced? Are there any other options? We support the Government s attempts to improve disclosure. In responding to questions one and two, we note that the market for pensions is unfortunately complex, both for scheme members but also for employers. With the increased number of individuals and companies who will engage in pension provision since the introduction of automatic enrolment, it is imperative that further attempts are made by both industry participants and regulators to enhance the information that is made available to those making decisions about future pension provision in a meaningful but not mechanistic way. The Key Investor Information Document (KIID) which is used by UCITS provides an example of disclosures which follow a consistent approach in order to generate simplicity of comparison and ease of use by consumers. Any disclosures being developed as a result of this consultation should similarly seek to achieve these outcomes. We consider that, in the interests of member understanding and simplicity, additional member disclosures should be required which oblige the provision of cost of ownership information that could be included within the annual statement of the individual member. This cost of ownership data should include disclosure of the costs associated with: (a) administration charges; (b) ongoing fund management charges; (c) advisor remuneration; and (d) transaction costs. The provision of this set of data would allow individual members to determine the costs associated with the scheme, and would permit the direct comparison of costs between different advisors and different funds. The simplicity of this data is paramount if individual scheme members are to be able to decipher and act upon the data which is received. We refer to and support the Investment Management Association s (IMA) response which sets out in detail how these data sets can be effectively combined in initiatives such as the UCITS KIID and indeed the IMA s own update of the Statement of Recommended Practice for authorised funds. Any additional disclosure of information on charges may generate a risk that members with larger pension pots will transfer into a fixed fee arrangement (e.g. a self-invested personal pension) in order to prevent being charged disproportionately (versus those members with small pension pots) for the same level of service. Should this occur, there is a possibility that the loss of larger pension pots could jeopardise the continued viability of some schemes. It is important therefore that the disclosure being provided is appropriate and proportionate. The complexity of the pension market currently and the volume of information which can be received by new entrants or scheme members can result in individuals being inundated with information, and not engaging to any extent with that which is received. It is imperative therefore that any additional disclosures add value when compared against the current regime. Q3 How might the total cost of scheme membership including transaction costs be captured, what would be reasonable and practical to ask providers and investment managers to report on and to whom (members, employers and governance committees / trustee boards)? A key issue here relates to the attribution of costs that are borne by investment funds and how these should be allocated to individual scheme member accounts. With recent developments in the pension industry notably the use of platforms and the ease of fund switching which has resulted in increased usage of this option the ability to allocate fund costs across individual scheme members has become increasingly complex. A simple solution would be to ensure that true fund costs were clearly distinct from those associated with the wrapper vehicle around the individual funds.
For this reason, we consider that disclosures should provide for: (a) the administration costs; (b) the ongoing fund management charges; (c) any advisor charges; and (d) transaction costs. This information should be disclosed through an annual disclosure report to the trustees, the sponsoring employer and the governance committee. Individual scheme members should also receive this information through inclusion in the annual statements which are provided. This information in combination should provide sufficient transparency to the employer and scheme members in relation to the cost of the pension provision and would also allow competing schemes to be compared and contrasted should an employer be considering changing the current scheme provider. Having reviewed the proposal within the consultation, we consider that pension providers and investment managers should be provided with a two year period during which systems, processes and controls could be updated. This would provide sufficient time within which to build and test systems and controls, thereby delivering a robust solution to scheme members which added value rather than creating unnecessary confusion. We must also advocate that it is essential that flexibility is retained in terms of the provision of information to scheme members in recognition of the ever changing digital environment. As a minimum, this should provide for electronic provision rather than hard copy format, but any requirement should be drafted in a manner which provides, to the extent possible, future proofing in recognition of further advances in digital capabilities. Q4 Do the proposed implementation dates for a cap provide sufficient time for employers to review and put in place compliant arrangements? We do not support the proposed implementation date and strongly request that further consideration is provided to the date of introduction of the proposed requirements. Most employers who need to stage in April 2014 will already have arrangements in place. The period following the finalization of any new requirements and the staging in April 2014 will not be sufficient to permit employers, consultants and providers to review and revise existing arrangements or for new arrangements to be discussed, concluded and implemented. In addition, we consider that the proposed cap could potentially make some arrangements uneconomic due to the limit imposed on the charges which schemes may impose. In these circumstances, it is likely that the only available solution would be the National Employment Savings Trust (NEST) option. This could result in a significant challenge being imposed on the capacity of NEST to address this additional demand which would occur in a short space of time. On the basis of these issues, we cannot support the proposed implementation dates as currently drafted, and urge the Department to reconsider the proposal and implement a revised solution which is amenable to all parties involved in the process. Q5 Which of the three options for a cap is the most appropriate? Of the three options presented in the consultation, we consider option three (comply or explain) to be the preferable solution. This option provides the most flexibility in terms of the offering which is provided to employers (and therefore individual scheme members) but places the onus on the pension provider to justify and explain the reasons for the higher charge. A regular review of any justifications for increased cost in combination with the enhanced disclosure regime should allow employers to actively determine whether any pension charging in excess of 0.75 per cent represents a sound investment decision. We reiterate again the importance therefore of ensuring that additional disclosures in this market add value to employers and individual scheme members and facilitate the appropriate decision making on the continued viability of current pension arrangements.
Q6 Under option 3, what conditions would you expect for schemes levying a higher charge between 0.75 per cent and 1 per cent? Whilst we support the concept of comply or explain, we do not consider it appropriate to prescribe the circumstances in which a pension provider could impose a charge that was in excess of 0.75 per cent. The range of justifiable factors is too broad to define and will alter over time as pension providers react to new developments in the market and consumer expectations. Any requirements in relation to the ability to comply or explain should not restrict the circumstances in which pension providers may impose a higher charge, but should instead focus attentions on the need to justify and disclose any higher charge. We would however highlight the following factors as examples of the circumstances in which a scheme should be capable of charging in excess of 0.75 per cent (but not more than 1 per cent): (a) the funds used in the default fund support the higher charge by virtue that they include some use of a blend of active and multi-asset strategies; and (b) the quality of the scheme adheres to a higher standard for which a higher charge may be levied, e.g. where the additional costs of administration or service provision associated with the higher quality mark are not specifically addressed through the standard charging structure. Q7 How will employers and pension providers respond to a cap on charges and what evidence is there that charges will be leveled-up in response to a cap? For new business written as at today s date, the default total expense ratio imposed by many pension schemes does not exceed 0.5 per cent. We do not therefore consider that the proposals will have an undue impact on new business. However, in relation to legacy schemes that have been in operation for any period of time, the options available are likely to result in either a repricing down of the scheme or a reduction in the level of services which are made available to the employers or individual scheme members. For some legacy schemes, there may also be the possibility that the changes imposed result in the scheme becoming uneconomic and terminated in accordance with existing contracts. There is also anecdotal evidence to suggest that following the launch of stakeholder pensions with their associated charge cap (but prior to the Retail Distribution Review (RDR)), the service that was provided to individual scheme members diminished when compared against other schemes for which no charge cap was imposed. This was a consequence of pension providers having limited scope to provide an enhanced service offering due to the charge cap. Given the Department s recent consultation on pension scheme quality standards, it would be contradictory to impose a charge cap which resulted in any reduction in scheme quality at a time when attempts are concurrently being made to enhance the minimum standards to which DC schemes should adhere. It is imperative therefore that any charge cap is imposed at an appropriate level which does not unduly restrict the ability of pension providers to offer a quality service to individual scheme members. Q8 What evidence is there on the link between scheme charges and scheme quality or investment returns? The charges imposed by a pension scheme can be linked to both scheme quality and investment returns. However, other factors can equally act as determinants of the scheme quality or investment return such as governance, investment strategy, administration and member servicing. By way of example, a scheme which offers enhanced member communications (when compared against regulatory and legislative requirements) or which operates additional governance arrangements or atretirement services could be deemed to constitute a higher quality scheme than one which does not offer such features. In order to provide these features, the costs associated with their provision are generally
borne by the individual scheme members. It follows therefore that there can be a correlation between the cost of the scheme and its quality. However, this is neither a direct nor a perfect correlation. A driver of the investment performance of the fund will also be the investment objectives of that fund, with the investment objectives of individual funds varying materially between those available in the market. It does not therefore follow that there is a direct link between the charges imposed and the investment performance of a fund. A higher charge does not guarantee a higher investment return. Fund management strategies and asset class used will also have an impact on the charges imposed. Those funds which are actively managed or which use multi-asset classes are likely to charge higher amounts than those which use passive management strategies or single asset classes due to the additional tasks involved in the former when compared with the latter. However, again there is not a direct link here; a higher charge does not mandate the scheme to use active management strategies or multi-asset classes. In light of the absence of a clear and direct link in all circumstances between the charges being imposed by a scheme and either the investment performance or scheme quality, we consider it necessary that flexibility is available to pension providers in relation to the charges imposed. This can be achieved through the comply or explain option, which permits a higher charge provided this is justified. If this is combined with appropriate disclosures as to the value for money obtained from a particular investment strategy, the employer can determine whether to utilise a higher charging scheme or seek one with a lower charge. Q9 If a cap is introduced, what if any changes should the Government consider in response of the stakeholder charge cap? Given the difference between the charge cap imposed on stakeholder pensions and the maximum charge which the Department is considering as part of this consultation, there is likely to be a need to review the arrangements for those currently investing through a stakeholder scheme. This should occur if customers are to continue to be treated fairly. Q10 Are there any alternative options to capping charges that would provide protection for scheme members? It is not correct to assume that imposing a cap on charges will deliver better protections to scheme members. A scheme may operate with a lack of oversight or with poor customer service but maintain a low charge by virtue of the lack of services and facilities that are provided to members. It cannot be a desired outcome for this consultation that poor quality but cheap schemes prevail within the market. Therefore, addressing the governance arrangements and the quality standards to which schemes must adhere will enhance the offerings which are available within the market. Revised governance arrangements will provide additional oversight and scrutiny of investment decisions and service offerings, and when combined with new quality obligations and increased transparency, should consequently raise the protections which the industry can offer to individual pension scheme members. We consider therefore that it is important that any requirements imposed on the charges which a scheme may impose are combined with enhancements to the governance arrangements and minimum scheme quality standards which operate within the market. Q11 What impact will a charge cap have on the capital reserves pension providers need to hold under: (a) a 0.75 per cent or equivalent cap; or (b) a 1 per cent or equivalent cap? There are many factors which influence the capital reserves held by pension providers. However, there is the potential that the imposition of a charge cap on pension schemes actually raises costs imposed on individual scheme members when compared against current rates.
Individual member pots need to accrue to a critical size in order to be sustainable for the pension provider. Anything less than the critical size will require the pension provider to utilise own resources in order to fund the costs associated with ongoing management of that pot. The lower the charge cap imposed on the pension scheme, the higher the critical size of an individual member pot. In any instance in which the pension provider has to utilise own resources in order to fund the costs associated with the ongoing management of the scheme, additional capital will have to be acquired. The costs of raising that capital will need to be met and generally these costs will be imposed on individual scheme members. To the extent that this remains possible given any charge cap imposed, the need for additional capital for the pension provider will result in increased costs being imposed on individual scheme members. This is not an acceptable outcome from this consultation. Again, we stress the importance of establishing any charge cap at an appropriate level and retaining the flexibility for pension providers to charge in excess where such an increase is justifiable. Q12 Should transaction costs be included within a charge cap? We do not agree that transaction costs should be included within any charge cap. The costs to be included and disclosed through the total expense ratio should be those that are certain and stable in nature, and would cover the day-to-day administration and investment management costs. However, transaction costs are fundamentally different in their nature to those costs which have greater certainty in either amount or volume. Transaction costs will vary based upon the number of transactions in any given period, with DC investment funds potentially being exposed to significant transaction costs due to the need to invest and divest on a daily basis. Increased member activity leads to higher transaction costs, particularly if flows are into UK equities which are subject to the 0.50 per cent charge to stamp duty, The specific transaction cost will vary dependent upon the market, the instrument and the broker which is used to execute the transaction plus the fund s net inflow or outflow on the day of the transaction. The lack of certainty associated with these factors does not lend itself to imposing a charge cap as this could have unintended consequences on the activities and abilities of schemes. Thus, the imposition of a charge cap which captured transaction costs could significantly curtail the ability of the scheme to perform a high volume of transactions or to access niche markets or instruments. It is not an acceptable outcome from this consultation that schemes are restricted in terms of their ability to perform transactions that would benefit the individual scheme members. Furthermore, transaction costs may not always be explicitly identifiable. While rates for equity transactions are generally agreed in advance, this is not the case for other assets classes such as fixed income which are spread-based and which do not lend themselves to ex-ante disclosure. The subjection of these costs to an explicit charge cap would present significant operational challenges which could not be overcome without material investment of time and resource. The costs associated with this investment would ultimately have to be met through the charges imposed by the scheme. The inclusion of transaction costs within the charge cap would also necessitate the inclusion of stamp duty reserve tax at 0.50 per cent for every equity transaction. If the cap is applied at 0.75 per cent, this would present pension schemes with a significant operational challenge in order to continue to operate. Consequently, our suggestion is that any charge cap does not include any transaction costs within scope. However, we recognize the need for transparency and, in accordance with our answers to questions two and three above, consider that transaction costs should still be disclosed in order to provide all relevant information to trustees, governance committees and members.
Q13 Would requiring the disclosure of transaction costs to trustees and the independent governance committees to be set up for contract-based schemes help to manage any potential avoidance risks associated with a charge cap? There are two points to consider in this question regarding the benefits of upfront disclosure and the management of risks linked to the charge cap. Firstly, the disclosure of charges to trustees and governance committees should be provided in order to generate good governance and oversight, and not to manage any potential for avoidance of the charge cap. Secondly, given the difference in nature of transaction and ongoing costs, we do not consider that disclosure of transaction costs to trustees or governance committees would manage any potential for avoidance of the charge cap. By way of example, transaction cost disclosure would include the 0.50 per cent stamp duty reserve tax imposed on every equity purchase; this has no relevance when considering whether attempts were being made to avoid the charge cap. A consistent definition of what constitutes a charge, with appropriate oversight and due disclosure of such, would provide a more appropriate mechanism through which to ensure that the charge cap was adhered to. Q14 Are there any specific services that may need to be excluded from the cap to avoid constraining innovation, for example, in respect of annuity broking services? It is important that the charge cap does not inhibit innovation in pension provision. A clear definition of what constitutes a charge is key to successful delivery here. In addition, guarantees (as noted in the Department s consultation on defined ambition schemes) and at-retirement services are two areas which we consider should be excluded from any charge cap on the basis that these are unlikely to be paid for by the total expense ratio during the accumulation phase. Q15 What would the impact be of a ban on Active Member discounts and other arrangements where deferred members pay an increased charge in qualifying schemes, would providers need to increase charges for active members and if so, by how may percentage points? It is worth highlighting here that with the proposals from the Department in relation to the automatic transfer of small pension pots, fewer pension pots should remain dormant. This could increase the volume of pensions which are held by active scheme members and could witness further popularity of active member discounts (AMDs). If, as proposed, a ban is imposed on AMDs, a significant review of scheme pricing and structure would need to occur across the pension industry. This review would not be either quick or simple, and would result in a material burden and cost being imposed upon the industry with any costs incurred ultimately having to be accounted for by the fees paid by individual scheme members. If the ban is not clearly defined and articulated, the industry could witness significant cost being incurred as all parties rush to perform an assessment of whether existing arrangement are impacted. It is imperative therefore that any ban is imposed in a manner which provides certainty to employers and providers over the scope of application. We would also make the following observations which should be considered when determine the scope of application of any ban: (a) differential pricing for employees versus those who have left the company does not of itself constitute an AMD; (b) it is common practice for an employer to pay a per capita fee in respect of active employees to meet the cost of administration, particularly when a DC plan moves from an unbundled to a bundled basis. This subsidy tends to cease if and when the individual changes employer, at which time a higher total expense ratio would be imposed upon the individual scheme member; and
(c) in light of (b) above, any ban should not restrict the ability of an employer to provide a preferential benefit to current versus former employees. This is a fundamental facet of employment and should not therefore be restricted by inappropriate drafting of any requirements. Q16 What, if any, transitional arrangements might be needed for those schemes already set up? As we have highlighted above, we consider that a two year transitional period should be the minimum that is provided between the finalization of the requirements and their introduction. A transitional period of this length will ensure that employers and pension providers have sufficient time to review and address existing arrangements and to implement solutions to any new requirements that deliver value to all participants in the process. Q17 Q18 Can you provide more information about the scenario whereby employees who leave their job are converted into an individual personal pension? Does this require the member s consent and is this practice disclosed to employers when they choose the scheme? How are the existing regulations working in practice and how are services now being delivered and paid for? We have no comments on these matters. Q19 How are charges for blended funds structured, their level set and what disclosure is in place for members and employers? Each scheme is priced individually, based on its own merits and taking into account the initial assets under management and the projected cashflow that will be received for the scheme. Where blended fund structures are utilised, the charges applicable reflect a weighted average of the underlying funds that will be blended. Where the blend reflects a client specific request, an additional blending fee may be imposed given the bespoke nature of the offering. This fee is typically of the order of three basis points. Disclosure of these charges is made through provision of the total expense ratio which is disclosed for all funds within a scheme, and made available to members, trustees and sponsors. Q20 What impact would extending these regulations to qualifying schemes have on providers, employers, advisers and any other third parties, and what if any transitional arrangements would be appropriate? The extension of these regulations to qualifying schemes could potentially result in an increase in the cost of ownership. This could occur if qualifying schemes restructure in order to include third party costs, thereby ensuring that current provisions are maintained under any new regime. Q21 What would be the impact of a ban on commissions in qualifying schemes and does commission present a barrier to switching? A ban on commission would likely result in the need for many providers to reprice a significant number of schemes in order to establish whether they wish to continue operating services. Schemes unwilling to pay advisory fees would interact on a more direct basis with the pension provider. Given the complexity of the pension market, it may not in all instances be appropriate to implement change which reduces the reliance placed upon third party advice. As the Department acknowledges within the consultation, the complexity of charges makes comparison between schemes difficult. Any actions which could potentially restrict the ability of employers to access independent third party advice must be thoroughly
considered and subject to a cost benefit analysis before implementation, and should only occur where there is demonstrable evidence to suggest that the information made available to employers is sufficiently granular and simple to allow direct comparison of competing schemes without the need for consultant intermediation. The question of commission bans has to be viewed in the wider context of the implementation of the RDR in the UK. Whilst the RDR undoubtedly shines a light on the value of the advice provided, there are real concerns about the affordability of advice. Given its importance, particularly where there is an element of investment choice, we believe it is essential that any commission ban is accompanied by an equal focus on developing a regulatory framework for the supply of effective advice to employers and scheme members. Q22 What evidence is there of an increase in sales of DC schemes with commission in 2012? We do not pay commission on DC schemes so are able only to provide anecdotal evidence. During 2012 we received an increased number of requests to provide both commission and non-commission terms, and on a number of occasions new business prospects elected to establish their DC plan with a commission paying providers rather than ourselves. Q23 How much (on average) has commission on these schemes increased the AMC in percentage points? We have no data to comment on this.