A DCIF report raises concerns about lack of investment choice in master trusts and difficulties in distinguishing between providers. Michael Klimes explores the details
Master trusts have been operating within the constraint of the 0.75% charge cap since April 2015. While the cap keeps a lid on charges for members, driving down costs could also lead to watered-down services. A report from the Defined Contribution Investment Forum (DCIF) raises this point when it comes to the investment proposition of master trusts.
The Master Trusts: Investment Designs a Comprehensive Study, which examined the investment offerings of 17 providers, has concluded that investment is a low priority for providers and little innovation is underway. Their concentration in passive investments is evidence of this.
Investment is low priority
The report finds there is a gap between the investment quality offered by auto-enrolment (AE) master trusts and those targeting larger employers. Also, there are different interpretations of value for money and environmental, social and governance (ESG) issues are a secondary consideration.
When it comes to the charge cap and investment options, the report noted the undeveloped nature of the market: "The majority of master trusts have designed very low-cost standard propositions. Disclosures and interviews showed that the investment costs of many of these propositions are in the range of four basis points (bps) to 20 bps. This leaves very little room for allocations to actively-managed or illiquid assets, which can be perceived as being higher in price than passive components."
Similarly, post-retirement investment solutions are yet to evolve as it has not been an area of focus up to now. "[Providers] were vague around what designs would be put in place and felt that narrowing down the range of options would be done partly by themselves in the design phase of a future project, and partly by their competitors launching products that gained clients and received regulatory approval where required," the report continued.
Presenting the findings of the study during a press conference last week, Capital Group head of DC strategy David Calfo, who is also part of the DCIF's master trust steering group, said: "If investment is seen as a hygiene factor, for want of a better word, and master trusts are investing all their time in administration and communication, you could ask the question, ‘what is the basis upon which they are competing'? How are they differentiating themselves from one another'?
"The only obvious thing is cost. You could argue there is a so called 'race to the bottom' in terms of cost. That is partially or largely reflected in their investment strategies. So if there are 70 master trusts, what is going to determine the winners from the losers? I struggle to get my head around it. If investment is not one of them and we are suggesting it is not, then what will be [the differentiating factor]?"
Looking beyond costs
There is a risk that providers could ignore asset classes by exclusively focusing on cost, he added.
DCIF vice chairwoman Annabel Tonry argued providers must look beyond cost when it comes to choosing investment propositions for members: "If the charge cap is driven lower [as a result of the government's AE review], we would be concerned that it could drive trustees or other decision makers even further towards decisions about investments based exclusively on cost. Instead they should identify the best strategies to give members an adequate income in retirement. The Pensions Regulator (TPR) also points out that cost is only one facet of value for money. Until now the debate has centred on cost."
Franklin Templeton Investments head of institutional Jill Barber welcomed the report and agreed with its findings. "As the number of retirement savers enrolled in master trusts in the UK continues to grow, we strongly believe that investment strategies should be at the forefront of scheme design. While administration, communication and governance are all important, an effective investment strategy is integral to the success of schemes."
"As scheme members start to take more interest in their pension pots, they will want to see their assets growing and an important component for this will be to provide them with access to a diverse range of investment strategies within default funds."
While master trusts are focused on keeping costs down, they will eventually have to confront the question of investment propositions for members. As it is a complex one, it will require collaboration across the industry, according to DCIF executive director Louise Farrand. "The DCIF believes that an effective investment strategy is fundamental to the success of a pension scheme and ultimately results in better retirement [outcomes] for members.
"While it is early days for both master trusts and the AE process, we want investment to become a more competitive feature in the future and are very keen to be part of this process.
"We therefore hope that prospective investment returns, and the suitability of risks taken for each group of members, will feature more prominently in the future."
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