A new report predicts nothing short of a pensions industry bloodbath

There is no evidence that paying higher investment charges results in better returns, says a damning new report from the Pensions Institute.

The well-respected independent research organisation concluded that the charges funds pay have a bigger impact than asset allocation on the eventual outcome for members of pension schemes.

The report looked at the performance of a cross-section of funds over a 40-year investment horizon, and found that newer schemes performed better than older schemes. The difference is simply that newer schemes have lower charges.

Total Expense Ratios matter, too. The institute found that, “As a guide, each percentage point increase in the TER leads to a fall in the expected replacement ratio at retirement of about 20%.”

There is no evidence that higher charges can ‘buy’ more sophisticated investment strategies that deliver superior performance

All in all, the report concluded that, “while ‘cheapest’ is not synonymous with ‘best’, there is no evidence that higher charges can ‘buy’ more sophisticated investment strategies that deliver superior performance.”

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Professor David Blake, director of the Pensions Institute and one of the report’s authors

Pensions minister Steve Webb has been making the case for enforcing lower charges for months now, but his proposals to cap charges were stymied yesterday (for a full analysis of this announcement, check Pensions Insight’s website on Monday).

The report will irritate active managers who argue that stock selection is the key to achieving a big fat pension pot, and charge pension schemes high fees accordingly.

Except for a couple of rather indignant fat cats in the audience at the report’s launch, so far, such managers have greeted the report with a wall of silence (it’s 75 pages long, so perhaps they are still reading it).

Their obvious retort is that the very best active managers do outperform despite their higher fees, and that a pension scheme’s job is to identify those rare managers and strategies that do successfully outperform the market over time.

The problem is that realistically, the identity of those managers is anyone’s guess. Most schemes will fail to pick them out of a beauty parade. So surely they are better off not gambling and choosing a nice, cheap strategy with a low and transparent Total Expense Ratio instead?  

Asset managers’ problems do not end there.

The Pensions Institute’s report also predicts a rapid and fierce consolidation of the pensions market as auto-enrolment rolls out. The report anticipates that the value of the defined contribution (DC) market will grow by more than six-fold by 2030 to a value of £1.7trn, but expects that by 2020, only five or six trust-based multi-employer schemes will exist.

If the institute’s vision is realised and only five or six major DC schemes exist by 2020, the consolidation is likely to transform the asset management industry.

“The stakes are high and the battle to secure market share between now and 2018 is going to be bloody.”

Certainly, each scheme will need a number of different asset managers to run the necessary variety of mandates. But it seems unlikely that the entire asset management industry will survive. Will we see a consolidation there, too? If so, consultancies seem likely to head in a similar direction.  

As Debbie Harrison, visiting professor at the Pensions Institute and one of the report’s authors observes, “The stakes are high and the battle to secure market share between now and 2018 is going to be bloody.”

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