GLOBAL - Pensions consultancy Hymans Robertson has suggested trustees who are thinking of creating defined contributions scheme defaults containing diversified growth funds should try to avoid the ‘one size fits all' offering and instead recommend offering members several ‘risk rated' investment options.
Officials at the firm say they are in favour of looking at new proposals for DC defaults but argue recent proposals by a rival firm to alter default funds might not be best for pension scheme members.
Lane, Clark & Peacock unveiled new thinking in May when it announced their recommended DC default offering would contain 50/50 diversified growth and equities until members began derisking for retirement. (See earlier IPE story: Diversified growth to play key role in DC default)
In response, Mark Jaffray, senior investment consultant at Hymans Robertson, told IPE he believes new ways have to be found to ensure the right risk profile is found for each member, so they continue to save whatever they can for retirement.
"We are in favour of diversified growth funds per se, as diversifying across asset classes makes sense and it produces a better spread of sources of returns," said Jaffray. However we see the debate on defaults funds growing beyond the ‘one size fits all' approach where it is assumed every individual member has a similar risk tolerance."
Where a scheme does have one default option, rather than placing 50% of assets in diversified growth from the start of a member's investment cycle, Jaffray suggested trustees should consider a default which encourages investors to hold more risky assets whilst they are starting out and then move into diversified growth funds mid-career before seeking more security as members progress towards retirement.
"You could introduce diversified growth funds at a later date, maybe at 40 to 45, then perhaps move 100% into diversified growth before de-risking ahead of retirement," said Jaffray.
"We are trying to get schemes to get members to think about how much risk they want to take and how much they want to contribute. If they pay a high contribution rate, they should perhaps think about taking less risk. The issue is how much of this default option is suitable for the member?"
He suggested members who are the same age, for example, could consider following different DC risk profiles depending on the amount they invest. If one 30-year old member was paying a contribution of 20%, for example, and another was paying 10%, the person paying 20% might be more comfortable taking less investment risk in exchange for greater security whereas the 10% member may well think they can only afford to pay that amount and therefore need to consider more risk to provide a decent benefit.
It's an issue that the UK's Personal Accounts Delivery Authority (PADA) will have to consider as it tries to assess what makes an appropriate DC default option for members who join the state-run pension fund from 2012, according to Jaffray .
"What is more important for some members is the security of the money they put in and not whether it is getting the best investment return," said Jaffray.
"People on low to medium incomes may save low amounts of contributions and take risk only to find the fund value is falling. And there may be a behavioural impact to this, which stops them from contributing altogether. The more important objective is to keep them saving. If taking less risk encourages people to keep saving, that is a probably a better outcome. We need to think carefully about the level of risk for low to medium incomes and how much is appropriate for their lack of risk tolerance," he added.
One of the issues advisers and trustees would also need to consider, however, is whether scheme members would be amenable to investing in alternatives, given the recent bad press alternatives investments have received.
In any default offering, trustees would need to question whether the average man in the street would perceive alternative investments positively, suggested Jaffray.
"Public perceptions of alternatives are pretty low. Hedge funds have been berated and seen as partly responsible for the recent upheaval in financial markets, although this is largely unfair. Private equity funds were perceived to be run by fat cats and commodity traders have been criticised as being responsible for raising the price of some foods. We know this is unfair criticism but we have to take public opinion into account," he added.
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