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Pensions Watch - October 2009

PADA opts for a passive investment approach…
The forthcoming system of personal accounts, to which those who are not members of an occupational pension scheme will be automatically-enrolled from October 2012, will principally adopt a passive route to investing, mainly as a consequence of PADA (Personal Accounts Delivery Body), the advisory body driving the initiative, being mandated to keep costs capped at 0.5%.  In what is to become the nation’s largest DC scheme – the Pensions Policy Institute suggests the scheme could administer £300bn of assets under management by 2050 - participants will choose from 40 target date funds, each adopting an investment strategy that fits with a defined retirement date.  Each of these will invest in a combination of equities, bonds and property and, in some cases, alternative investments.  The latter is likely to be the only area where active management will be employed.

…and a staggered start…
With the government cautioning against a “Heathrow Terminal 5-style” launch, only the very largest employers will be auto-enrolled from the start, with others being gradually brought into the scheme between 2012 and 2015.  Contributions will be similarly staggered with the full 8% contribution not being paid to each personal account until October 2016.  Citing Lord Turner’s 2005 Pension Commission, which originally envisaged a 2010 start date, an incoming Conservative government has pledged to start the auto-enrolment process prior to the planned 2012 implementation date. 
Providing strategic direction and ensuring that personal accounts are run in accordance with the scheme rules will be the responsibility of the chair of the personal accounts trustee corporation, a role that is currently being advertised by the Department for Work and Pensions (DWP). 

…while employers gear up for implementation 
Interestingly, in preparation for the 2012 implementation date, the Association of Consulting Actuaries found that 59% of employers, 86% of whom employed less than 250 employees, are planning to review their pension arrangements, with 40% of smaller employers likely to close their existing pension schemes in favour of personal accounts.

Rising life expectancy sparks calls for higher State Pension Age…
Described by some as a legalised Ponzi scheme, owing to it requiring a continuing supply of taxpayers from an expanding workforce to pay for current pensions, the State Pension scheme came under the spotlight at each of the political parties’ conferences this month.  The Conservative Party outlined its plans to raise the state pension age (SPA) for men to 66 from 2016 - eight years earlier than planned by the Labour government – and to 66 for women by 2020, in an effort to chip away at the UK’s spiralling national debt.  This came against the backdrop of the Office for National Statistics confirming that the average life expectancy of a 65 year old man rose from 15.99 years in 2000-02 to 17.53 years in 2006-08, whilst for the average 65 year old woman these numbers were 19.08 years and 20.17 years, respectively.  Watson Wyatt noted that these improved rates of life expectancy meant that the government’s original expectation of the average 65 year old man living for 20.6 years in 2026, when the SPA becomes 66, is likely to be realised in 2011.  Consequently, both the Institute of Directors and the National Institute for Economic and Social Research have called for an imminent rise in the SPA to 70, rather than the planned graduated rise to 68 by 2046.  (Interestingly, Lloyd George introduced the state pension in 1908 for those aged 70 and over, when average male life expectancy was a mere 48 years). 

…as the State Pension increases by £2.40
Then came the news that the government was to raise the weekly payment for a single pensioner from next April by a meagre £2.40 from £95.25 to £97.65.  Although this comes against the backdrop of a surprise 1.4% fall in the September Retail Prices Index (RPI), to which State pension increases are tied, subject to a minimum increase of 2.5% per annum, it is the smallest weekly rise since Gordon Brown increased weekly payments by just 75p nine years ago.  Whilst all three major political parties have vowed to restore the link to national average earnings (NAE), severed in 1980 in favour of the link to the RPI, this is scant consolation for the fact that the State pension as a percentage of NAE, for Britain’s 12.2m pensioners, has fallen from 26% in 1980 to 16% today.   That said, from April 2010, both men and women reaching state pension age will only need 30 years of qualifying national insurance contributions to receive a full basic State pension.  Currently, the requirement is 39 years for women and 44 years for men.  

SP2 to be cut by 5%
In addition, the second state pension (S2P), formerly the State Earnings Related Pension Scheme (SERPs), is to be reduced by about 5% for anyone earning more than £31,800 per annum from next April, whilst widows will only be able to claim half of their husband’s S2P rather than the full rate, as the government targets £400m of cost savings in this area.  Michael Johnson, former investment banker and author of the highly informative paper: “Don’t let the crisis go to waste: A simple and affordable way of increasing retirement income”, seeks to provide a lasting and affordable solution to the looming UK pensions crisis by arguing for a more generous State pension, financed by scrapping S2P.

Public sector pensions freeze
However, a £2.40 per week increase is better than nothing at all, which is precisely what over 2m recipients of the four main unfunded public sector pension schemes can expect next April.  Whilst like the State pension scheme, increases in the monthly pension payments from these schemes are linked to the September RPI, they are not subject to a guaranteed minimum increase (or a decrease should the RPI fall).  Most private sector DB scheme pensioners are in a similar position.  Rather disconcertingly, although the RPI is a standard measure of inflation, it does not necessarily reflect the actual price changes experienced by consumers, especially older people.  Hewitt Associates found that pensioners are being hit particularly hard because once living costs, such as fuel bills and council tax, are taken into account, pensioners have faced annual inflation over the past two years of 5.4% but have only received a 2% annual increase in income. 

Governance 2.0
Redington co-founder Dawid Konotey-Ahulu has called on trustees to raise their level of governance from, what he terms, version 1.0 to version 2.0, in order to keep pace with the marked pace of change in the pensions industry.  Schemes that operate under governance 1.0 are those that are reliant on a single adviser, take a long time to make decisions and implement them as well as restrict trustee discussions to the boardroom.  By contrast, governance version 2.0 draws on the “two heads are better than one” philosophy, whereby trustees employ additional scheme advisers, engage more freely with market experts and use social networking sites to interact with fellow trustees.  Separately, City columnist Anthony Hilton has observed that Investment Committees on the whole tend to focus on the relatively unimportant minutiae at the expense of failing to regularly embrace the big picture, particularly whether the scheme’s assets are as well positioned as they could be given economic and market trends.

Implemented consulting gains traction
The £18bn Royal Bank of Scotland (RBS) pension scheme has joined HBOS, LloydsTSB and  Barclays pension schemes (do you spot a trend here?) in appointing a Chief Investment Officer (CIO) to the helm of their schemes, following a recommendation from the investment consultancy arm of Watson Wyatt.  In addition, in excess of 30 Watson clients have moved the management of some or all of their assets to Watson’s implemented consulting division.

Stock lending pays dividends
According to Pensions Week, 68% of the top 50 UK DB pension schemes engage in stock lending, from which, on average, they generate £2m per annum of fee income.

And finally…

15 ways to live to 100
With all the talk about improving life expectancy and longevity hedging, research conducted by Aviva suggests there are 15 ways in which you can add a total of 77 years to your life.  Of these, the following are the most notable. Laughing for 15 minutes a day can add 8 years, living in Eastbourne can add 6.2 years and, most surprisingly of all, flossing your teeth can add 6 years to your life. 

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