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A Warning for Britain’s £2 trillion Pension Industry

A new report from the industry trade body for Britain’s pension funds says weak governance is a source of poor performance — and it’s putting millions of retirees at risk.

  • Joe McGrath

A trade group representing British pension funds has warned that weak governance standards could hurt millions of U.K. workers and urged both pension schemes and their regulator to make changes.

Britain’s Pensions and Lifetime Savings Association — which represents U.K. schemes managing some £2 trillion ($2.6 trillion) in assets — said on Wednesday that “a significant proportion” of U.K. retirement schemes will not be able to pay all the benefits they have promised to members, and the U.K. Pensions Regulator has said some 3 million people are covered by the schemes it has deemed most at risk of being unable to fulfill their promises to members. The PLSA paper noted that the defined benefit schemes that haven’t offered good value for members have done so owing to a combination of poor investment returns, high costs, and “poor administration performance as a result of poor governance.”

The report points out that these scenarios lead to a lower quality of life in retirement. “In dealing with this complex subject matter, governance bodies have little margin for error,” the report stated. “Poor decisions can have serious consequences for members.”

The PLSA said one example of poor governance can be found in how smaller defined contribution schemes develop their default strategies, noting that only 22 percent of small and 58 percent of medium-size defined contribution schemes have used member research or analysis to build their default investment strategies. Citing the Financial Conduct Authority’s recent Asset Management Market Study, it said that, because of their size, smaller pension funds find it more difficult to negotiate fees with asset managers.

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Both defined contribution and defined benefit schemes are affected by poor governance, according to the PLSA, which called on the U.K. Pensions Regulator to rebalance its regulatory priorities for pensions, including putting greater scrutiny on board appointments and effectiveness. It also called for consolidation of some pension schemes, where doing so would have better outcomes for members, and urged pension schemes to broaden the diversity of backgrounds and experience of their board members. It also suggested schemes institute a governance structure in which a board or committee handles strategic oversight of the scheme while an executive body handles day-to-day management.

The report came just days after research by employee benefits consultant JLT Employee Benefits found that total pension deficits of FTSE 100 defined benefit schemes had grown by £17 billion in 2016.

Paul McGlone, a partner at investment consulting firm Aon, tells Institutional Investor that a distinction needs to be drawn between how small and larger schemes operate, noting that smaller pension schemes will best improve their governance by having their problems flagged and by being allowed to make their own resolutions.

Xafinity’s head of pension investment, Ben Gold, echoes these sentiments: “The structure proposed within the PLSA paper — being akin to a non-executive board supported by an executive board — could work well for larger schemes with plenty of resources. However, it would be very challenging and costly for very small schemes, a difficulty potentially eased by consolidation.”

The PLSA report outlined a scenario in which the U.K.’s regulators nudge those small schemes with poor governance to encourage them to consolidate. However, Paul Richards, head of governance and decision research at pension consultant Redington, says that while a smaller number of well-resourced schemes and good governance may produce better outcomes than the status quo, the picture is far more complicated.

“Consolidation is a little bit like world peace,” he says. “It’s a good idea, it’s just challenging to get there.”

The U.K. Pensions Regulator said in an emailed response to the report that it does not intend to impose “new or higher standards of governance on schemes” and that it would not be producing “rafts of new guidance.” A spokesman said it will instead make expectations clearer and that schemes can expect “action against poor governance.”