In the run-up to auto-enrolment, DC schemes are in disagreement over the acceptable level of charges for the default option, a schemeXpert.com survey has shown
UK schemes are divided over the most appropriate charges for defined contribution default funds, with some claiming higher fees could lead to reduced risk.
How much should DC defaults cost?
The survey found a mixture of responses from DC scheme managers over the most appropriate default fee. Here is a selection:
Pensions manager, £2.2bn scheme, 41,000 members, with 0.65% AMC on default option: “Depends on the assets involved – ours includes passive equity and diversified growth.”
Pensions manager, £110m scheme, 1,900 members, with 0.45% AMC on default option: “Depends on the size of the scheme, but less than 0.5% is reasonable.”
Pensions manager, £780m scheme, 9,000 members, with 0.13% AMC on default option: “As a low as possible. We feel we are getting value for money with our fee basis.”
The majority of the 20 schemes that took part in schemeXpert.com’s survey of attitudes to investment fees said DC default funds should look to have as low a cost as possible.
But there were some respondents who felt default funds that had higher fees could make use of multi-asset funds.
These vehicles invest in a wide range of instruments – including derivatives – and aim to reduce volatility and investment risk. But they come at a higher cost.
With an average of 80% of DC members investing in the default option, schemes are under pressure to ensure these funds offer value for money and also do not expose their members’ investments to too much risk.
DC members who are able to control their investment costs while managing the amount of risk in their investments will stand a better chance of achieving an adequate income in retirement.
The survey covered pension schemes with £27.5bn in assets under management and more than 500,000 members in total.
Ideal default charge
In general, the respondents felt any fee below 0.5% annual management charge for a DC default fund was acceptable.
We believe [our default fee] is reasonable and a big discount to what would be available to [members] as individual investors
Manager, £2.2bn scheme
“[It needs to be] as low as possible,” said the UK pensions manager at a £780m hybrid scheme, which has a default fund with an AMC of 0.13%.
“We feel we are getting value for money with our fee basis.”
Respondents to the survey had a range in their default option charges from 0.08% to 0.65%.
A recent Towers Watson report into the DC schemes of FTSE 100 companies showed 56% of plans had default funds with AMCs of 0.4% or lower.
The Towers Watson report showed just 6% of schemes had default fees of more than 1% AMC, which the consultant suggested was likely to be due to the inclusion of active management within the option.
In the schemeXpert.com survey, the highest DC default charge was found at a £2.2bn scheme with more than 40,000 members.
The pensions manager said: “[The optimal fee] depends on the assets involved.
“Ours includes passive equity and diversified growth, so we believe it is reasonable and is a big discount to what would be available to them as an individual investor with the same provider.”
Limited impact of auto-enrolment
The respondents were evenly split over the impact they felt auto-enrolment would have on fund management fees.
Competition among asset managers will drive innovation and exert downward pressure on fees
Trustee, £200m scheme
Half felt there would be no knock-on effect, while the rest believed the influx of millions of new pension savers would increase the assets held and therefore lead to a downward pressure on fees.
“I expect fees to become a bigger issue and for fund managers and advisers to be more transparent,” said the secretary at a £1.5bn hybrid scheme with more than 17,000 members.
Others felt auto-enrolment would increase competition among fund managers, which would also lead to a reduction in DC investment charges.
The introduction of the National Employment Savings Trust – with its 1.8% charge on contributions and 0.3% AMC – has set an unofficial ceiling on DC charges, with newer players in the market offering more competitive rates.
But Nest Corporation has claimed long-term savers will pay much lower average fees once the 1.8% charge is removed. It estimates savers will typically pay around 0.4%.
A member-nominated trustee of a £200m scheme added: “Stakeholder experience indicates [auto-enrolment] will initially raise fees and decrease choice.
“But once significant asset pools have accumulated I imagine competition among asset managers will drive innovation and exert downward pressure on fees.”
In the final part of the fund management fees survey next week, we look at the how schemes are educating their members on the impact of charges on their investments.
