When it comes to pension management, ensuring that schemes provide value for money while achieving good member outcomes is by no means an easy feat. In taking pension decisions, finance directors need to look beyond low costs alone as an indication of value for members and take quality and costs – compared to market competition – into account.
But, how do you achieve the Holy Grail of pensions of keeping costs down and driving value for members?
How to provide value for money
The Pensions Regulator has defined value for money in a DC pension scheme as being “where the costs and charges deducted from members’ pots or contributions (the cost of membership) provide good value in relation to the benefits and services provided (the benefits of membership), when compared to other options available in the market”.
The code of practice highlights that value for members “does not necessarily equate to ‘low cost’” but that good value for members is realised when the “combination of costs and what is provided for the costs is appropriate for the scheme membership as a whole”.
Furthermore, The Pensions Regulator said that it expected trustee boards to “make efforts” to understand the characteristics of members in addition to preferences and financial needs and “where possible” to take this into account “when exercising their judgement about what represents value for members”.
As a result, schemes need to demonstrate how they offer value for money for members. Value can be assessed by researching members’ characteristics, needs and preferences and defining criteria against which value for money can be determined.
NEST, the pension provider, found that its membership was likely to fall into a younger category compared to other workplace pension schemes, with members having less experience of pensions and financial products and a higher level of ethnic diversity.
It set out its criteria for measuring value for money, including that the default investment funds should “meet the needs identified by research for both managing risk and meeting the stated investment objectives”, and that charges should be “low, transparent and published” with the effects of the costs and charges made clear.
So, how can schemes keep costs low?
Operational design is a critical element to maintaining low costs and ensuring best quality for members. Pension schemes with scale can also drive best value from suppliers to maximise cost efficiencies.
Having in-house experts is another benefit to keeping costs low. An in-house team can levy their expertise as informed buyers to negotiate the best deals for members, and make good strategic decisions about how to drive the best value. With investment returns often hinging on good asset allocation decisions being taken, in-house teams can keep those important decisions under review and ensure the investment strategy is fully aligned with members’ interests.
How to deliver performance
In today’s economic environment, and following several high-profile pension scandals in the past, pension scheme members look for certainty with regard to their pension savings, and expect smooth and predictable returns.
Delivering strong risk-adjusted returns in all market conditions can be challenging, but providing good returns for the most people, most of the time, is the overall target of portfolios that manage risk successfully.
Diversification of assets is key here. Investment across a range of regions, asset classes and fund managers is vital, yet pension scheme managers should also have a good understanding of the correlation between each investment.
Take NEST as an example. In the three years to June 2017, NEST achieved an annualised three-year performance of 11.84% and a three-year annualised risk at 7.16%. The pension provider has an in-house investment team responsible for ensuring the best outcomes and value for members. Much of the market competition have recorded lower performance and/or higher risk, demonstrating that NEST’s policy of good risk management, in addition to its efficient operating model, can drive good pension performance and member returns.
The Holy Grail
Pension providers have much to consider when it comes to striving for both low costs and good member outcomes. Schemes that understand member characteristics, set their value criteria accordingly, levy the expertise of in-house experts and manage a diverse and well risk-managed pension strategy will set themselves on the road to achieving the pensions Holy Grail, providing quality and value for money for members.