Autumn of life and out of luck

Falling markets are posing severe dilemmas for staff within months of retirement, says John Greenwood

Plummeting financial markets have taken their toll on defined contribution pension schemes in recent weeks, creating a headache for HR departments and putting particular pressure on those close to retirement.

Aon calculates that at least £157bn has been wiped off the value of DC pensions in the year to October 2008. It says the value of defined contribution pension scheme assets now stands at £395bn, down from a figure of £552bn a year ago, despite the fact that around £6.7bn has been paid into pensions over the period.

Helen Dowsey, principal in the benefit solutions division of Aon Consulting points out that despite the significant drop, most workers do not need to panic. She says: “Most workers will have the fortune of time on their side as their retirement will be many years away, enough time to weather the current storm.”

But the situation is critical for those close to retirement who do not have other assets to live off and who cannot find work elsewhere to allow them to wait for markets to recover.

Dowsey says: “For those nearing retirement, it will be even more essential to seek professional advice on all the options available to them and how to get the most from their pension. Many may be tempted to switch their pension assets held in equities at low value and move into cash but it’s not a good time to do this whilst equity markets are falling – it effectively consolidates losses. For some it may be a question of delaying retirement.”

The plight of those not in lifestyle funds will hit the headlines as pension statements get sent out at the end of the calendar or tax year, according to Tony Barnard, technical consultant at Gissings. “Those with lifestyling will be generally OK, but not in the older schemes, where advisers have not been involved for some time, and where no lifestyling solution is in place,” says Barnard.

Typical default funds in the pre-lifestyle era have been balanced managed offerings from life insurers. The average balanced managed fund has fallen in value by 24 per cent in the last 15 months according to Hargreaves Lansdown, leaving those retiring from those funds with an equivalent fall in income. Standard Life estimates 100,000 people a year retiring from these funds without lifestyling.

For scheme members delaying retirement in the hope of an upswing, playing a waiting game also carries its risks. Hargreaves also estimates that typical annuity rates could fall from 6.7 per cent to 6 per cent over the next year as interest rates are cut to fend off recession.

Nigel Callaghan, pensions analyst at Hargreaves Lansdown says: “Deciding to defer retirement may turn out to be a risky option. There’s a real risk that by delaying retirement to let pension savings the opportunity to recover at least some of their loses are running the possibility that annuity rates could plummet by 10 per cent or more in the intervening period.”

Add to that the fact that those approaching 65 are months away from losing the protection of age discrimination legislation, and a falling housing market making life difficult for those who had been planning to downsize, and it becomes apparent that HR departments will face challenging conversations in the coming months.

Lee French, DC proposition director at Alexander Forbes Financial Services says: “The reality is for these members still in equities with a few months to go that they have got to take the drastic decision of coming out and accepting they will be retiring on a reduced income or postponing retirement in the hope that things get better.”

The majority of employers who receive the services of corporate IFAs and benefit consultants will have been protected from the worst of the recent shocks in the market from the solutions they will have put in place for them. This could in fact arguably make pensions volatility a selling point for corporate benefits advice in the future.

For providers, there remains the risk that volatile markets will bring back the sort of negative headlines in relation to pensions that they have worked so hard to get rid of.

For this reason there could be a case for providers writing to those employers who are not receiving ongoing advice from an intermediary with a recommendation that they notify staff of a lifestyling option, if one is available. By so doing providers could avoid facing the same bad news on pensions years down the line when the next downturn strikes.

“There is an argument for providers to write to employers inviting them to point out to staff that they can add a lifestyle option to their pension for no extra charge,” says Lawson.

Not all providers will be able to offer lifestyling in such a straightforward way. For this reason other solutions will have to be found to take some of the volatility out of contract-based DC.