Calum Cooper says 2018 should be the year when the pensions industry puts members first, but we won't get there by chance
The key challenge for 2018?
An increasing industry focus on cost means we lose sight of the top priority: how best to pay pensions, in full. I implore The Pensions Regulator and the Department for Work and Pensions with its White paper to ensure cost benefits are sought in the context of better defined benefit (DB) member outcomes. Forcing trustees and advisors to focus on member outcomes, and identifying how to improve these would be a good start.
Why? There is £400bn of annual risk in the DB system - much of it unnecessary. We mustn't lose sight of this. Let's fix that. This risk could be tamed by deploying DB capital efficiently alongside more patient funding and contingency plans. This means that each pound goes further by multi-tasking. Focussing too much on cost means we may find ourselves scooping up pennies in front of a multi-billion pound bulldozer.
What's driving this?
There's a general confusion about the sustainability of DB pensions schemes (we must remember that the majority are affordable to their sponsors). This is due to the distraction of large deficits, plus high profile sponsor failures, leading to a focus on consolidation to save costs and improve outcomes. The reality for the majority is that DB schemes are expected to pay members' pensions in full. The biggest threat to sustainability is the scale of risk being run - so all this could change.
What will 2018 hold?
2017 will mark the end of the beginning for DB consolidation, in all its guises - whether master trusts, asset platforms, fiduciary, insurance vehicles or innovations in the non-insured space. 2018 will see lots of energy focused exclusively on saving cost in order to attract assets under management. At its heart consolidation is about realising the cost benefits of scale: improved governance bandwidth, broader investment opportunities, and lower investment costs. And it has a big heart. But what does the head say? Many schemes of all shapes and sizes are run on a lean, simple and effective basis and with great governance (TPR's 21st century trustee campaign is helping here). For others, cost savings should be addressed at a measured pace. In the context of the risk to member outcomes schemes are running, it is unlikely to be the top priority for many. Consolidation should, however, be a priority where it is identified as the best way to reduce the risk of not paying pensions in full.
When might consolidation be a top priority?
In the spirit of balance, here are two examples of where consolidation may be the top priority…
Insured pensions are the best possible retirement home for the majority of DB pensions. One form of consolidation that makes a meaningful step forward in managing risk and cost is in risk transfer. Overall we expect 2018 to break prior records. We also expect to see unprecedented transaction innovation. This reflects that on the supply side, many insurers and re-insurers have now caught up with the recent slowdown in longevity improvements, and insurers sourcing a broader range of higher yielding illiquid assets, we anticipate risk transfer pricing to continue to be very attractive next year. This is further supported by international appetite for UK longevity risk. We also expect one or two new entrants to the market in 2018. On the demand side, in the last 12 to 18 months solvency shortfalls in UK DB schemes have dropped by around £200bn, making risk transfer more affordable still.
For those schemes that do not realistically expect to make it to the insurance world in later life, a significant minority, I predict that the biggest innovation in DB will be a flavour of risk and cost reducing consolidation: non-insured risk transfer, or enabling Trustees to exchange uncertain covenant for additional cash and capital. We will see fully fledged, shovel ready, propositions available to help DB schemes. The Pensions and Lifetime Savings Association's consultation outlined an example of this that would require regulatory change. The reality is that it can be done within the current legislative and regulatory regime. Where paying benefits in full via an insurer is unlikely, this could make a big difference to member outcomes. Watch this space.
Calum Cooper is head of trustee DB at Hymans Robertson
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