Industry calls for better DC risk guidance to hit target outcomes

Traditional lifestyle strategies that work towards annuitisation have been branded unfit for purpose following March’s Budget, which opened up options for members that may not want to buy an annuity at retirement.

Some providers have already responded to this by launching products with a higher level of pre-retirement risk for members that may want to stay invested past the end of their working life. 

A survey of 1,000 scheme members published last week by research company Spence Johnson for industry group DC Investment Forum showed four in five would prefer their scheme to invest their money in lower-risk funds in the 10 years to retirement.

Members were also tested on their awareness of the different options available to them post-Budget. But no option scored more than 44 per cent, showing a lack of awareness of the flexibilities on offer (see graph below).

Laith Khalaf, head of corporate research at Hargreaves Lansdown, said members need a better understanding of the relationship between risk and returns when deciding what level of risk to take before retirement. 

“If you ask people what they want in terms of risk and return, what they want is high return and low risk, but you need to explain to them that the two are correlated,” he said. Historically schemes should have been promoting the open market option, added Khalaf. 

That’s still important for people that are going to be buying an annuity, but now [shopping around] is a much smaller part of the picture

Laith Khalaf, Hargreaves Lansdown

“That’s still important for people that are going to be buying an annuity, but now [shopping around] is a much smaller part of the picture,” he said.

However, the Budget changes mean members can afford to take greater risk during the decumulation phase, advisers have said.

“If people are going to be benefiting a lot later, which they are, and not going to be buying an annuity there’s no reason they should give up on investment returns just because they have reached a particular point,” said independent pensions expert Ros Altmann.

Altmann added DC schemes should follow the lead of defined benefit in terms of investment strategy, as an alternative to current DC lifestyle strategies. “The standard asset allocation is what final salary schemes did 15 years ago,” Altmann said.

Richard Butcher, managing director at independent trustee company PTL, said the barrier between pre-retirement and post-retirement has been broken down.

A scheme’s default investment strategy needs to be researched-based on the level of risk members can tolerate and what is appropriate. “In future we’re going to be far more granular,” said Butcher. This could result in multiple default funds within DC schemes, he said.

Altmann suggested DC schemes should invest in a wider range of assets such as infrastructure and forestry, rather than growth depending on equity risk premium, which could be achieved through the economies of scale offered by mastertrusts. “You can control the volatility and adjust the risk levels just as DB does,” she added.

However, the benefits of this approach are not particularly well-evolved, according to Khalaf. “There’s a difficulty of investing in illiquid asset classes for individual retail investors; they might want to [cash in] their investment at any time,” he said.