Don't split the DC default fund

But as increasing numbers of people join defined contribution schemes and benefit options become more flexible, can split default strategies really work? 

A survey undertaken by Sackers at the National Association of Pension Funds’ investment conference in March indicated the majority of schemes have only one default fund, and currently it is hard to argue against this.

Having only one default fund does not mean trustees can step away from their obligations to manage a DC scheme in the best interest of the members, nor does it mean trustees should offer any less variety of fund choices to members. 

But it can help trustees focus their energies. Given the broad array of member outcomes now available, trustees need more than ever to focus on communicating with members and encouraging engagement.

Diverse membership

DC membership is increasing year on year, with reports of around 6m DC active members and approximately £1tn of assets.

These figures indicate a diverse population saving through DC schemes. Such a broad demographic makes it extremely difficult for trustees to second-guess a member’s needs and outcomes.

The new pension freedoms make trustees’ jobs even more difficult.

DC members have a range of choices, including the ability to take a lump sum and draw down the remainder of their pension, to take a single lump sum from their pension, or to purchase an annuity.

This is a seismic shift for DC. No longer are members bound to purchase an annuity, and the annuity market has seen a serious lack of interest in its products since the flexibilities were announced in 2014.  

The implication is that members are considering their options more closely. Given the choices available, it is not possible for trustees to make a decision on what benefits a member will want. The only person that can make the choice is the member.

The retirement age of many members is also changing. The state pension age will slowly increase from 65 to 68.  

Age discrimination legislation has also meant many members have an entitlement to work beyond their traditional retirement age, and many are choosing to do so. 

This presents another variable for trustees to grapple with. It is arguable a lifestyle strategy that cashes out a member at age 65 is no longer appropriate for someone who chooses to continue working beyond this age.

Getting members engaged is key as the reality is the member is the only person who will know when they will retire.

Focus on one fund

Trustees are now subject to a number of new legislative and regulatory requirements in relation to monitoring and reviewing default funds, and they need to ensure default strategies are suitable for their members. 

These new requirements also restrict the annual management charge that can be levied.  

With one default fund, trustees can focus on getting this right and discharging their duties. They can also devote greater time to member communications, encouraging members to engage with the variety of outcomes available to them, and make the choices which suit them. 

Indeed, by lessening the governance time spent on having several default funds, trustees should have more time to spend on the alternative funds and strategies DC members want to invest in.

It would be wrong to say never to split default funds, which like everything else in the DC market will evolve to meet changing demands.

But if your scheme doesn’t have them already, we would be inclined to say not now.

Faith Dickson is a partner and Ian D’Costa an associate director at Sackers