A piece of the pensions jigsaw

It reminds me of trying to complete a jigsaw puzzle where every time you get half-way there, a budget, a change of pensions minister or a referendum comes along, and you find you have some new pieces, some have changed their shape, and some of what you have already completed gets removed.

But enough of the sympathy. As the FCA points out, “pensions are of fundamental economic and social importance in ensuring that people have an adequate income in retirement”, and “what to do with pension savings is one of the most important financial decisions people have to make”. So it is important to get the regulation right, and to be prepared to change it in response to government policy, market developments and consumer behaviours. The Retirement Outcomes Review (ROR) has its place within this, looking at competition in the decumulation market.

The FCA is seeking input on its ROR terms of reference. This follows on from its Retirement Income Market Study, the conclusions of which were partially invalidated as they were based on a world before the 2015 pension freedoms which completely changed the decumulation market. The FCA is collecting data to see how the market is changing, with further feedback due in the summer of 2017 which will allow more time for the market to settle.

The FCA is quick to highlight other initiatives it is progressing. These include proposals to cap exit charges for those wishing to exercise pension freedoms, preparing regulation for the secondary annuity market, developing an ‘annuity comparison remedy’ and collecting data to understand commission payments for non-advised decumulation product sales.

Previously, the FCA highlighted the overlap between the ROR and the Financial Advice Market Review (FAMR), its joint project with the Treasury. FAMR has generated a few more jigsaw pieces, although many are still to take full shape – clarifying guidance versus advice, the pensions dashboard and the Pensions Advice Allowance being examples. It is for this reason that the ROR is focusing on non-advised journeys and not advice elements of decumulation.

There is also a mention of the proposed Lifetime Isa (Lisa). When (or if) the Treasury finalises details, the FCA will need to consult on how to regulate Lisa, bearing in mind the risk of some individuals losing out by choosing to invest in a Lisa rather than to stay in a workplace pension with valuable employer contributions.

The EU Referendum outcome also gets a brief mention. EU regulations will continue to apply, at least until we formally exit the EU and where written into UK regulation, unless explicitly removed. The FCA has also reminded firms to continue to prepare for those due to come into effect ahead of our exit. This latest document covers those which could impact pensions, including the Institutions for Occupational Retirement Provision Directive, the Markets in Financial Instruments Directive II and the possible extension to pensions of the Packaged Retail and Insurance-based Investments Products regulation. I would hope that the closer we get to exit, the more pragmatic both UK and EU regulators will be regarding making changes which could be disapplied on exit.

The ROR is looking at four key topics, all relating back to assessing the effectiveness of competition in the decumulation market. The FCA accepts that post-freedoms, there is a blurring between accumulation and decumulation. Products included are annuities, income drawdown, ‘hybrid’ products including those that offer some form of guarantee and Uncrystallised Pension Fund Lump Sum (UPFLS) cash withdrawals (more a product feature than a product itself). Hybrid products with guarantees can offer a balance between flexibility and security, and including these in the ROR will hopefully give providers and advisers more confidence offering and recommending them.

The FCA has long had concerns over how able consumers are to shop around for an annuity (right type as well as best rate) and if providers could do more to encourage this. Recent statistics show the majority of customers buying annuities or drawdown do so with their current provider, and the FCA will carry out further analysis to understand why.

They are now extending their analysis to consider if wider decumulation options are further complicating shopping around, or increasing disengagement. To me, providers and advisers need to start educating their customers well before decumulation starts. The first step is generating awareness of future options. Then comes creating an understanding of the personal benefits of each. Next is the individual choosing their best option – annuity, drawdown, hybrid or full encashment. It is only then that the individual might shop around for the ‘best’ regulated product – and in reality, some may not have the stamina for this. For drawdown and UFPLS, there is also a need for ongoing review. Advisers can and do add value at each of these stages, and it is right that the FCA focuses on whether there are particular risks in the non-advised space.

Research shows the pension freedoms have increased customer engagement with saving for retirement, and in many cases have led to individuals saving more. This is very positive, and engaging earlier in the accumulation stage will pay dividends when decumulation approaches.

Historically, many annuities have been purchased without advice and this continues to be the case. What has changed is the significant increase in non-advised drawdown sales – 32 per cent from the FCA’s most recent data. The FCA wants to understand if consumers are able to make informed decisions around more complex products and if providers may be ‘framing’ options in ways that encourage sub-optimal customer choice.

Digital innovation offers new opportunities to support customers, particularly if they do not have the benefit of an adviser to help them understand and choose from the new retirement options.

The FCA recognises that the pension freedoms may have influenced business models – either leading to providers offering a wider range of decumulation options or to specialising in certain options. This can create competition concerns, particularly if new ‘challengers’ find it hard to achieve viable scale.

Finally, the FCA is asking if its regulation is harming competition, discouraging firms from entering the decumulation market or from innovating. In particular, it asks if any of its regulations are disproportionately expensive compared to the issues they are seeking to address.

In conclusion, pensions are, as the FCA says, of fundamental social importance, and appropriate regulation in support of government policy and consumer choice has to be a good thing, but it is far from easy. I have always thought that the FCA should take the lead in setting out a clear picture of all the different pensions initiatives and how they all fit together. The ROR terms of reference are a step in that direction, but we are not there yet. It is always easier to complete a jigsaw if you see the picture on the box.

Steven Cameron is pension director of Aegon