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2020 volatility would not have led to CDC benefit cuts, Aon says

Gandhi: Our hypothetical scheme is expected to deliver a modest, positive increase to members’ benefits in 2021
Gandhi: Our hypothetical scheme is expected to deliver a modest, positive increase to members’ benefits in 2021
  • Jonathan Stapleton
  • Jonathan Stapleton
  • @jonstapleton
  • 08 October 2020
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UK collective defined contribution (CDC) schemes would have weathered 2020 market volatility and would not have needed to cut member benefits, Aon says.

Its research - Collective DC in adverse markets - explored how a typical CDC scheme design would have fared during 2020's turbulent markets.

It found that the recession triggered by the Covid-19 pandemic crisis is not expected to have resulted in members' benefits being cut, even if the scope to award future pension increases had been reduced.

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Indeed, its modelling showed that cuts to benefits were only necessary in extreme conditions, such as significant recessions - adding a well-designed CDC scheme would have only seen one cut during the past 90 years, during the Great Depression of the 1930s.

Aon head of CDC Chintan Gandhi explained: "The nature of a CDC scheme means that members' target pension increases can be adjusted to reflect positive and negative experience over a period of years. This means that the impact of market movements - in either direction - are shared between members and then smoothed over time.

"For example, in response to the 25% asset falls we saw at the end of this year's first quarter, we expect members of a typical CDC scheme, targeting say 3% p.a. pension increases at the start of the year, would have been able to expect a 2% increase both in the coming year and in future years. This represents lower increases to their benefits than they might previously had expected, but crucially, the one-off market shock would not have resulted in a cut to their benefits."

Gandhi continued: "We have also considered how a well-designed CDC scheme, targeting inflationary increases to members' benefits, might have performed more generally. To do this, we have back-tested the impact of past market performance (between 1930 and 31 March 2020) on the benefit adjustment outcomes for members of a hypothetical CDC scheme.

"Our analysis revealed that a well-designed CDC scheme might have seen just one cut in benefits - during the Great Depression of the 1930s. Moreover, even after the market shock following the outbreak of coronavirus, our hypothetical scheme is expected to deliver a modest, positive increase to members' benefits in 2021."

Aon head of UK retirement policy Matthew Arends added: "The ability of a CDC scheme to adjust target levels of pension increases operates as an efficient way of adjusting members' benefits to reflect positive and negative experience over time. We expect a number of employers will look to the attractive features of CDC for building a more resilient future, for both member and employer outcomes.

Back-testing CDC benefit adjustment outcomes

Source: Aon

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