DC Provider Default Funds in Hot Weather 2020 – Investment
In a year marked by the market shock from the Covid-19 pandemic, the Punter Southall report showed how different default fund designs coped with market turmoil and showed that DC default funds were generally “relatively fast” relaxed.
Equity funds were hardest hit but then benefited the most from the rebound, especially those with the least exposure to UK assets.
Default funds with more diversification and lower risk, meanwhile, recorded an “average performance”, which better protected members from the downturn, but were then largely unable to get out of the recovery in foreign equity markets.
Going forward, providers must continue to work on risk mitigation strategies and ensure they are quick enough to make the right decisions at the right time to protect those who are nearing their chosen retirement age
Christos Bakas, Associate Director for Investment at Punter Southall Aspire said, “The most common phrases we heard about the investment markets in 2020 were words like ‘hot’, ‘unprecedented’ and ‘shock’.
“After nearly 12 years of positive stock market returns, the 20 percent decline in March 2020 came as a shock to many, especially those approaching retirement age. Suddenly savers nervously checked their pension values and saw negative numbers that they hadn’t seen since 2008. “
In the report, he wrote that given the diversification of DC Default Funds, “it is no surprise that these strategies outperform the global equity market in times of falling stocks and underperform in times of rising equity markets”.
Fees vary from system to system and are critical to the bottom line of any DC outage “as they have a measurable and significant impact on members’ fund values and subsequent disposable income in retirement,” the report said.
“The more diversified and sophisticated the standard option, the higher the total cost. Therefore, providers must ensure consistent performance and effective protection against market volatility in order to create value for members and justify higher fees. “
Bakas added, “Going forward, vendors must continue to work on strategies to mitigate risk and ensure they can be agile enough to make the right decisions at the right time to protect those who are nearing their chosen retirement age.
“You will have to decide whether adapting to the flexible needs of retirement is worth the additional risk members are exposed to. Both providers and employers must also ensure that members are much better educated about the need for continued equity exposure once they have started drawing benefits if they want to take advantage of an income deduction. “
The Punter Southall report found that there is no “single, specific, uniformly applied measure to assess the performance of the failure options in the DC market,” with vendors using a variety of different benchmarks including peer group sectors, composite benchmarks, cash or cash equivalents inflation indexed indices.
However, it found that providers were seeing returns of between 4.5 percent and 10.3 percent per year on a three-year annualized basis.
Aviva My Future Growth scored the highest, with the Fidelity Growth Portfolio ranked second at 9.5 percent, while the Royal London Governed Portfolio IV and Standard Life Active Plus III scored 5.9 percent and 4.5 percent, respectively.
On a five-year annual basis, the Fidelity Growth Portfolio, Aviva My Future Growth and B&CE The People’s Pension (up to 85 percent stocks) performed best with 10.9 percent, 10.3 percent and 10.1 percent, respectively.
Royal London Governed Portfolio IV and Standard Life Active Plus III brought up the rear with 7.3 and 5.3 percent, respectively.
“Vendors’ failure strategies vary widely, particularly in terms of the level of risk they build as their strategy grows, which has a long-term impact on overall performance, as riskier strategies tend to deliver higher returns.”
“However, in short periods like the falling market environment in March 2020, the most conservative strategies on risk had less of a negative impact on their returns.”
With regard to asset allocation, the report found that “Providers with their own asset management arm have developed more diversified and sophisticated off-the-shelf offerings that also take a more dynamic approach to asset allocation (tactical asset allocation) in order to get even more out of it Market Inefficiencies “.
During the consolidation phase, providers achieved annual returns of between 3.7 percent and 7.4 percent per year over three years, with the Nest 2026 Retirement Fund performing best and L&G Multi Asset in second place with 7.1 percent, while the Royal London Balanced Lifestyle Strategy was 3.7 percent and Fidelity Futurewise 3.5 percent, the report said.
Over a five-year period, those numbers were 8.7 percent and 8.4 percent for Nest and L&G Multi Asset and 4.5 percent each for Royal London Balanced Lifestyle and Fidelity Futurewise.
The report said this demonstrates “the importance of asset allocation in maximizing member fund values”.
“There are big differences between the funds of the providers, especially in terms of the risk they build into the consolidation phase of their strategy, which affects the overall performance,” it said.
“It is important to ensure efficient risk management for DC outages, as the consolidation phase is a relatively short period of time and therefore negative market events may not allow the fund values of the members to fully recover.”
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In the annuity phase, the providers achieved returns of between 2.7 percent and 7.1 percent per year on the same three-year annualized basis.
L&G Multi Asset achieved the highest score with People’s Pension in second place with 5.4 percent, while Fidelity Futurewise and Standard Life Universal Strategic Lifestyle Profile achieved the two lowest scores with 2.8 percent and 2.7 percent respectively.
Risk management is important here because “the retirement phase is the beginning of the membership benefit receipt phase, whereby the asset allocation is geared towards an extensive adjustment to the benefits to be received. Again, the members’ fund values may not fully recover in the event of a severe market downturn, ”the report said.