Darren Philp: Delivering transaction cost transparency for scheme members
Darren Philp explains why The People's Pension has published a full breakdown of transaction costs and is backing the introduction of a 'comply or explain' soft cap for such charges on DC funds.
Pensions continue to suffer from a bad press. Why? Because it's hard to shift the stigma created by a minority of historic pension schemes with high charges. There has also been a concern that some pension schemes might be allowing overtrading of the funds in which their members are invested, and incurring excessive transaction costs to the detriment of the latter's pots. Much has been done to tackle these issues over the past few years, not least the introduction of the auto-enrolment charge cap. But mud sticks, and it is mud that the industry needs to get rid of if it is to be trusted by consumers.
Good progress has been made on headline charges, but the industry and regulators have been grappling with the issue of how to record, calculate and declare transaction costs. The Transparency Task Force has done a good job in highlighting the issues and challenging the whole industry to go further and faster. This is welcome, not least because we see transparency as necessary in assessing value for money. You cannot assess value until you understand cost. So we need transparency of transaction costs to move on and start focusing on the net returns which are growing members' savings.
The Financial Conduct Authority's (FCA) proposed set of disclosure rules on transaction costs represents a potential leap forward. However, the proposal falls short by not requiring fund managers to follow a consistent set of assumptions, and to present them to pension schemes in a coherent standardised fashion. Such steps would allow scheme governance to compare and contrast, and really do their jobs in ensuring scheme value.
The Investment Association has also done some good work, but our firm view is that this issue is so fundamental to trust and confidence that it will only be done properly with full and mandatory regulatory intervention. From this perspective, the appointment of the FCA working group, chaired by Chris Sier, is very welcome.
What have we done at The People's Pension?
Over the past year we have been working with our main asset manager, State Street Global Advisors, to get a full breakdown of The People's Pension transaction costs. Moving beyond the basic level of transaction costs and into the detail has taken considerable effort and time, not least because asset managers' systems aren't yet geared up for such a complete level of disclosure. We have based our calculations on the proposed FCA methodology and have published both the explicit, and importantly, also the implicit transaction costs for The People's Pension default fund. We believe we are among the first schemes to apply the proposed FCA methodology.
What does this tell us?
I could write here about the level of The People's Pension transaction costs. But that isn't the point of this exercise. You would expect transaction costs to be low for schemes like The People's Pension that currently invest in passive funds.
As schemes diversify their investment mixes into more sophisticated investments these costs are likely to rise and fluctuate more. Also, transaction costs can be high or low for many different reasons. The point here is that the trustee or scheme governance body has to have clear information to make sound judgements about its investment strategy. Our trustee was keen to obtain the more detailed information on transaction costs and will certainly be monitoring these costs closely in assessing value. We will continue to publish these costs for external scrutiny. We would encourage others to do the same.
Finally, I noted earlier the progress that has been made with the introduction of the charge cap. Should we include transaction costs in this cap? I would argue yes, but let's do it in a way that doesn't fetter trustees' ability to run the scheme.
So, I propose that we adopt a comply or explain approach to the charge cap including transaction costs. Put simply, there should be a hard cap for pension scheme annual management costs, as there is today, and a soft cap for any breach of the 0.75% per annum cap if the breach is caused by a spike in transaction costs. The latter could easily occur if a pension scheme shifted a significant portion of assets in the member interest. Such an approach would enhance transparency and really focus the minds of the governance body in understanding transaction costs and assessing value.
Darren Philp is director of policy and market engagement at B&CE
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