UK pensions: Scaling for success

With a new government and an appetite for change, this is the UK’s opportunity to develop a compelling and cohesive vision for the future of retirement saving – with a clear execution plan.

Auto-enrolment has made a huge difference to UK savings – and we should all be proud of it. There is more to do, but we’ve built very strong foundations to support savers through the whole of their life.

The contributions flowing into defined contribution (DC) savings are now greater than defined benefit, with total DC assets expected to hit £1trn by the end of this decade – even excluding any changes to eligibility, contribution rates and entry points.

“We now have an opportunity to extend DC investment into unlisted assets such as housing, renewables and high-growth businesses – which could boost the UK economy and further improve returns for savers.” - Dame Amanda Blanc, group CEO, Aviva

The chancellor is now encouraging schemes to further improve net returns and members’ financial outcomes by investing in UK productive finance. Since the start of auto-enrolment, many DC plans have delivered double-digit average annual returns for those with many decades to retirement. Together with employer contributions and tax relief, this has already been great value to members.

Dame Amanda Blanc, group CEO of Aviva, said: “Automatic enrolment has been a huge success, creating an effective national scheme for retirement savings, and we want to build on this. We now have an opportunity to extend DC investment into unlisted assets such as housing, renewables and high-growth businesses – which could boost the UK economy and further improve returns for savers.”

Investing for scale

As schemes continue to consolidate, with the total number of DC schemes reducing from 3,080 in 2014 to just over 1,000 today, the size of the remaining schemes will increase significantly and quickly over the next decade. Some of the larger master trusts already manage over £20bn, which will grow even faster with new flows and cumulative interest.

Australian superannuation funds are an example of a sector that is used to ‘investing for scale’. For UK schemes to do the same will require a shift in mindset.

Carl Astorri, head of investments for Europe at Australian Super, said: “Australian superannuation funds are accustomed to ‘investment for scale’ and a systems design change is therefore needed in the UK.”

The characteristics, expected returns and cost of investments need to be considered and managed carefully, as they are key to providing value for members. According to costs and charges research in 2021 conducted by Ignition House, some savers said they would be prepared to pay more to get more. What mattered most was how much they got in their savings pot at retirement after costs, not how much they saved on fees.

Productive finance

A lot has been done to facilitate and encourage investment in UK productive finance by DC schemes, from the DC Patient Capital initiative in 2016 and the later work by the Bank of England, the Treasury and the Financial Conduct Authority, to the Mansion House Compact.

I think an opportunity has been missed to bring to life the actual available investments and success stories so that they are visible and real – along with case studies that everyone can relate to.

Most of us are familiar with the quoted US companies known as the ‘Magnificent Seven’: Alphabet, Amazon, Apple, Meta, Microsoft, Nvidia and Tesla.

How many could name any of the UK’s ‘Famous Five’? We’ve had some real success stories in UK private markets such as Octopus Energy, Arm, Revolut, Oxford Nanopore and Ovo Energy, some of which are now listed, that could qualify as our own Famous Five. There are other strong contenders, I’m sure.

António Simões, group CEO at Legal & General, said: “Driving pensions capital into areas such as science, technology and infrastructure can help support better returns for millions of retirement savers, as well as stimulate much-needed long-term growth for the economy. We’re committed to continuing to work closely with all stakeholders on the next stage of reform to make the most of this opportunity to benefit UK businesses, communities and society.”

Putting the UK in the shop window

We need to create our own UK shop window of investment opportunities in a clear department store format with clear labelling (sorry, but I’ve spent a lot of time in retail). This will create visibility and easier access so we can construct diversified investment portfolios with the right characteristics – vintage, risk, return, duration, ESG and broader responsible investment criteria.

We have the opportunity to promote the UK to our investment community and international asset owners. To do so, we need to do a better job of getting the message out and speak much more positively about the UK’s private market and broader productive finance opportunities.

Michael Moore, chief executive of the British Private Equity & Venture Capital Association, said: “The chancellor has a big opportunity to work with industry to increase investment by UK pension funds into UK businesses and private capital.

“The UK gets 16 times more investment into UK private capital and into fast-growing UK businesses from pension funds around the world than it does from UK pension investors. UK businesses have long been an exciting and innovative investment option for global and domestic investors.”

We all know that when a close family member asks for a chat about their retirement income and savings, this generally involves a broader conversation about all their wealth – not just their pension.

In many cases, this could include releasing equity from their home, but will certainly involve other non-retirement savings such as shares and cash deposits.

Homeownership has reduced significantly over the past 10 years, with 34 now the average age of a first-time buyer, according to the English Housing Survey. More people are renting and, in the next 20 years, around three times more people will be renting in retirement – which will need a 9% contribution from the age of 22 to cover the rent alone. A systemic risk is building up.

The Lifetime Savings Initiative

The Pensions Management Institute (PMI) and Schroders have been working on the Lifetime Savings Initiative (LSI) over the last 18 months, with industry leaders from different sectors, to understand the pinch points, challenges and barriers that prevent people from making the best choices regarding retirement and lifetime savings.

Our extensive research includes learnings from the UK and internationally, from which two comprehensive reports have been produced.

“The Pensions Review is a good opportunity to extend the UK savings framework to align with the broader needs of everyday people.” - James Barham, executive chair, Schroders Solutions

This evidence-based research – soon to be published as a white paper – proposes that the automatic enrolment framework can be extended to allow a proportion of voluntary contributions above the statutory minimum to be accessed for investment in a deposit for a first home or to build short-term financial resilience.

This would operate alongside a payroll-facilitated option, like Nest’s sidecar savings, to allow people to easily build up a ‘rainy day’ fund. Today, 46% have £1,000 or less in savings according to Finder, a global fintech.

Alongside the challenge of affordability, the Lifetime Savings Initiative found that the key barriers to increased savings were fragmentation of the market, lack of visibility, access, and complexity. A simple, accessible solution is needed.

James Barham, executive chair of Schroder Solutions, said: “The Lifetime Savings Initiative has considered the reality of people’s needs at retirement and a proposed solution will be published shortly, in a joint white paper with the PMI, to meet their key financial challenges during their working life – based on robust evidence from home and abroad. The Pensions Review is a good opportunity to extend the UK savings framework to align with the broader needs of everyday people.”

The proposed access points, delivered through a lifetime savings model, all contribute to the personal wealth that everyday people will need in retirement to make ends meet. If we can reduce renting and increase homeownership in retirement, this will also release some pressure from the system and reduce the risk of increased pensioner poverty.

We also need a system of financial guidance and support throughout life to help people understand their finances and make good choices.

Change needs to happen.

Even better value for members

When people come to retirement, we need to support them with clear, simple and personalised financial guidance. Never before will they have had access to so much money, from their retirement and other savings, with the most challenging of decisions to make and the task of finding a way to make it last over their lifetime – if that’s at all possible.

We must be there for them and help them make informed and robust choices – removing the risk of ‘value leakage’. That also means we need to make the language we use much simpler.

Backward-looking measures can be helpful, but we need to focus on ‘future change’ – and how we can improve financial outcomes for members. We need to review the Value for Members framework to be more forward-looking.

If DC trustees were required to disclose the projected financial future outcomes and savings for each phase of saving, the objective for governance bodies would then be to focus on and state how they would improve members’ financial outcomes, net of costs, for their retirement.

The opportunity

We have the opportunity to create a clear vision for the future, to build solutions based on global learnings, and to be a world leader in lifetime and retirement savings.

We have strong foundations upon which to build, a skilled and experienced industry, and with the support of technology and insight, we can create better and broader outcomes for people in the UK.

We shouldn’t aim for perfection, but if we all embrace change, work collaboratively and inject pace and urgency, we can provide a better overall outcome for UK savers and our economy.

Ruston Smith is chair of the Pensions Management Institute.