Learning curve

The pensions industry wants employees to understand DC investments because they bear all the risk. Paul Farrow investigates how this can be best achieved and how realistic a goal this really is.


You can talk about tax reliefs, high charges, asset allocation, a lack of trust in pension providers and asset managers and how you could improve the situation as much as you like – but the heart of the problem is that pensions and the investments they hold are mind-numbingly boring for most people who have yet to reach their fifties.
Trying to tear younger generations away from Facebook, Twitter, gossip magazines and reality television shows to get them to think about saving for their retirement is a mammoth challenge. It is a challenge that the financial services industry, understandably, is struggling to meet.
Pension stalwarts admit they faced an uphill task in communicating investment to employees. The majority of people don’t have the knowledge, time or confidence to take personal control of investment decisions. But getting consumers to take a proactive interest in their pensions is going to be crucial as the responsibility is increasingly falling on them as more final salary schemes close and more DC scheme move from a trustee-based arrangement to a contract-based arrangement.
“DC pensions put all the risks on consumers, and we’ve got to try and help them understand how to manage their pension plans safely,” said Adrian Boulding, pensions strategy director at L&G. “But consumers will have to learn with market volatility, as over the 10, 20 or 30 years that they are investing for, they will see several cycles of markets rising and falling. Sometimes in quite dramatic movements.”
The question is how or whether they need to learn about the intricacies of investment? And the question seems more pertinent at this time of year – a time when annual statements will be landing on the doormats of workers – and for many they will make grim reading once again given the stock market volatility.
Most managed funds will have struggled to make any money last year – the popular BlackRock Aquila Consensus 1 is down 3 per cent over the past year and has only made 9 per cent over the past five years – and if we are take anything away from Nest’s research their could be a mass exodus for schemes where people are losing money.
Nest’s research showed that the majority of its target audience are more risk averse than those older people currently able to save for a pension. It found that although older people say they don’t like to suffer loss, they seem to be able to live with it better and so don’t tend to act on falling fund values. On the other hand, younger people are more likely to act. They may say, ‘I’m not going to contribute any more, Nest says.
Tom McPhail at Hargreaves Lansdown has concerns that workers may react in haste. He says: “Very few investments are making any money at present; the economy is shrinking and living standards are falling, cash is barely maintaining its real value, gold has bounced around, equities have paid a dividend but the capital value has fluctuated. But I’m concerned that the industry, regulators and policymakers haven’t spent enough time in helping investors to engage with their investments and to understand how saving for retirement works. The more financially literate an investor is, the more relaxed they are likely to be about short-term fluctuations.”
Malcolm McLean at Barnett Waddingham is another industry expert who fears that workers might vote with their feet: “Anecdotal evidence suggests that disenchanted workers are leaving schemes,” he says.
Many industry pundits believe that education is the key to getting Britons into the savings habit and, just as importantly, to keep them there. But some argue that the major stumbling block is that before you can educate people, you have to engage them. Indeed, Alan Carey, principal consulting actuary at Alexander Forbes Financial Services. questions whether education will cure the malaise. He says that time pressures and “the glacial speed with, which a valuable benefit can be built up” are more problematic barriers to overcome.
“Simplicity is a feature that is noticeably absent from the current pensions landscape, and while it is undoubtedly true that the proliferation of three letter acronyms, opaque legislation and layer upon layer of complex processes put many people off, the essentials can be distilled down quite clearly,” says Carey.
Carey suggests that the following phrase sums up the essence of what people need to know: The Government grants tax relief on contributions that allow you to build up a fund for retirement, which you must use to generate an income for your old age.
He adds: “This much is understandable by all, and captures the essence of the venture. Only once workers have built a fund of some scale will they become keen to spend their energies to optimise its growth and options. Simple communication, then, is the key for these workers.
But others are not so sure that simplifying the language can make investment experts out of members or whether they need. Rob Fisher at Fidelity says the industry needs to take a step back and recognise that most consumers are not rational decision-makers. Instead they use their gut instincts and ask colleagues and friends what they do.
“Let’s focus on straightforward, honest messages about retirement saving, delivered in the workplace by people that workers can and do trust. These key messages are: do join the pension plan, keep on saving what you can, understand that in order to grow your savings you need to take on some risk. In short, take charge of saving for your own retirement – because no one else can do it for you.”
You wonder whether the industry needs to detach itself completely from financial jargon and look left field. Those who are several steps removed from the pensions industry jump on the fact that consumers like instant gratification and suggest that Starbucks might be able to teach financial companies a thing or two about wooing the masses.
Charles Vallance, of advertising agency VCCP came up with the Meerkat for comparethemarket.com. He believes financial companies need to understand consumers better and be far more innovative with new technology if they are going to persuade people to save more into pensions.
“You get rewarded for buying three cups of coffee from the same high street chain,” he says. “But there is barely an acknowledgement, let alone some tangible reward, for putting tens of thousands of pounds into a saving fund year after year.”
Graham Hales, the chief executive of Interbrand London, a branding consultancy, also points out that popular running applications for smartphones, launched by the likes of Nike, could provide a useful model by harnessing our competitive streak.
The vast amounts of data stored by these online apps allow runners to compare distance run, average speeds, fastest mile and so on. Mr Vallance says: “Could a financial company build something similar? If you could monitor the average amount saved for someone in your job, at a similar age, and you saw your pension slipping below the average, wouldn’t this encourage you to save more?”
Of course, we live in a short-term world. Newspapers and television news programmes are quick to pounce on stockmarkets plunging 10 per cent, and rarely shout when they rise.
Brian Henderson, senior investment consultant at Mercer says: “It would be fantastic if there was a wholesale change in the way people understand investments, both the ups and the downs and the risks involved. Australia is as close as we have to that ideal. Yet surely it would better to start at the end and work back to what needs to be done to deliver the member’s pre-defined ambition in retirement. It could be argued that the current process will never really deliver on expectation if the focus is too much on short term stock markets rather than end game outcomes. In time, the industry will devise better instruments on the pensions ‘dash board’ that will help the member understand what they need to do to arrive in good shape at their destination.”
He says that there is a danger that the industry tries to involve the member too much – most people will buy a car without caring too much about the sophisticated engineering going on under the bonnet – they are more interested in the look and colour.
“We have developed innovative ways of delivering our ‘best of breed’ thinking directly into members accounts. For example, in the past couple of years, we advised over 50 of the largest DC Schemes in the UK to redesign their defaults offering,” said Henderson. “Many of these default arrangements now have well engineered investment arrangements under the bonnet, meaning literally hundreds of thousands of members will have a better journey towards their retirement. Using member-friendly investment strategies allows a greater focus more on the end game, rather than the investment engine per se. It’s a balance though, we work hard to help schemes (and those that govern them) avoid focusing more and more on things that matter less and less when getting members to the end of their journey.”
The quality of the default fund is, perhaps the key, given that few in the pension industry give the impression that interest in pensions will pick up any time soon. The more optimistic reckon that auto enrolment will be the catalyst. Over time millions of people being as good as forced into investing into a pension will force them to take an interest in the stock market – it’s a trend that took place in the US to and where the DC landscape is more mature.
“As we become a nation of savers and more and more people can see the personal benefit of the retirement savings game, I think interest in investments may well pick up,” says John Lawson, head of Pensions Policy at Standard Life. “But communicating investments to the average retirement saver will prove difficult for the foreseeable future. Most people won’t take an interest today.”
Lawson highlights that Standard Life offers some consumer education on its website for workers and a risk questionnaire but admits that “we must have default funds that deliver reasonable returns within a low risk tolerance and that don’t behave in a way that puts people off saving”.
It is a policy that Nest is following and it is busy collating the findings of some research about attitudes to investing, the results of which will be published in September.
Nest said that people tend to ask three key questions. What will I get at the end? What happens to my money? And, why does my money go up and down?
Rachel Mahon, member communication manager at Nest said that many people have no idea that their money is invested at all, but added that they are shrewd when it comes to general money-saving habits around budgeting. “Investing in a pension is a new concept. Many think they money is in some sort of bank account and are completely surprised it is invested at all. They don’t expect to see volatility.”
It is, of course the reason, why Nest is adopting more cautious strategies and you wonder whether it may be onto something. Its growth phase fund was up by 4.9 per cent since its launch in July 2011 to the end of March – the last time it reported – versus the FTSE which is down 1.5 per cent.m Communicating why a fund has done worse than Nest is going to be a tall order.