Karen Watkin: The problem with the master trust information vacuum

Trustees must be able to compare master trust performance to discern their true value. Costs alone can’t be the sole selection criteria, says AllianceBernstein portfolio manager, EMEA multi-asset solutions Karen Watkin

Master trusts are playing an increasingly important role in DC pension provision as they steadily supplant traditional occupational schemes. With much of the debate on good value focused on charging individual members less for fund management and administration, master trusts’ ability to reap economies of scale suggests they could help schemes deliver better value.

But it’s overly simplistic to assume that competitive costs alone guarantee great value. Intrinsic value is determined by the benefits and services provided for the relevant spend. Understanding how one master trust compares with another in the market can, therefore, add hugely valuable dimensions to assessments of overall value.

In the mutual fund space, the wealth of performance data makes it easy to compare the track record of one fund with that of another—and to find out how funds hold up relative to the well-established benchmark indices that track broad market moves. We see no reason why DC default strategies should not be similarly comparable.

Unfortunately, there’s currently precious little performance available for the DC default fund universe. When we examined the data provided by the main Master Trusts, we found that only about half currently reveal the performance of their funds’ various underlying components—and fewer than 20 per cent aggregate component data to show overall fund performance in its entirety. Moreover, only about 50 per cent of master trusts disclose exactly how their funds allocate across different asset classes.

This information vacuum makes it challenging to determine exactly what each fund delivers in terms of member outcomes relative to costs—and, therefore, which represent genuine value for money.

If master trusts are being ranked in terms of headline costs and charges alone, this raises the prospect of a potentially harmful race to the bottom. This would encourage scheme providers to flock towards the cheapest possible investment strategies and bypass more costly options that might deliver better net outcomes for pension savers.

Some asset classes are certainly more expensive to access—for example, liquid alternatives, such as private equity and infrastructure, and smart-beta products. But, when used properly, we believe they can meaningfully enhance overall diversification and, as result, deliver stronger investment outcomes. Similarly, we think some funds could benefit from spending on more-sophisticated risk control mechanisms, like currency hedging overseas investments.

Since trustees should address the quality of member outcomes when making their value assessments, we expect them to recognise that higher-quality outcomes may depend on embracing investment approaches that may deliver superior returns at potentially lower risks.

With DC pension funds becoming the default choice for most employees—and more and more firms opting for Master Trusts to deliver these funds—it’s clear that performance transparency needs to improve. Better transparency would enable members to see how their schemes compare with alternative offerings in the market—and would also give trustees more tools with which to hold their managers to account.

Some argue that since every DC scheme member is unique, like-for-like comparisons simply aren’t realistic. We disagree. Each scheme member will have their own appropriate journey, but we’ve developed ways to measure—and compare—potential default strategy performance on a broad-brush basis. The starting point is establishing an appropriate risk profile, which will be determined by age from retirement. This will provide the key assumptions that will drive target allocations to developed equities, UK bonds and cash. We believe these allocations can serve as a basic benchmark against which to compare each fund’s glidepath. We can then calculate how the performance of this simple mix compares with the various fund glidepaths, enabling us to measure, for example, how a fund’s broader asset class diversification might enhance investment outcomes over a multiyear horizon.

While a CPI plus target might be a suitable long-term measure for an investment strategy we believe it is not the best indicator to assess if a strategy delivered over a shorter time horizon in the context of the market environment.

Going forward, we think master trusts should be required to publish the historic returns achieved by the default strategy on an age cohort or other suitable basis, net of all costs incurred by members.

This would enable trustees to compare master trust performance more effectively, helping them provide better governance and oversight. And it would also greatly enhance the quality of the information available to scheme members.

Members have the right to be able to compare the performance of the different funds and default strategies within their schemes to gain greater insights into their likely retirement outcomes — and, if necessary, to change course accordingly.