InvestmentsAug 6 2014

Pensions: a brave new world

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With the advent of freedom of access to pension funds in April 2015, fund management groups are devising new funds to meet the changing needs of income-drawdown investors.

Ian Gutteridge, director at Premier, the employee benefits and wealth management consultants, says initial analysis indicates that 30 to 50 per cent of people will still look to buy an annuity. For this group the existing default fund, such as lifestyle or target date funds, will still work but additional options may be needed for other pension members.

“Those wanting drawdown will want an investment strategy starting several years before retirement, so that when retirement comes, 25 per cent of the fund is in cash to meet their lump-sum requirement; a portion is in low risk accessible funds to meet their income needs over the next 2-3 years, and the balance is invested in a diversified growth strategy.”

He says current drawdown solutions with limited investment options, which some providers may offer, could be asking for trouble, and that increased governance will be placed on advisers and providers when dealing with a new type of drawdown client.

He would like to see a self-investment solution using best-of-breed fund managers that allows people to easily change strategy. “Plans are out there today on an individual basis; we now need a group version that can be accessed seamlessly,” he says.

Steve Charlton, defined contribution proposition manager at Vanguard, thinks the UK could learn lessons from the US and Australia, where greater choice at retirement has been available for some time.

He says there is evidence in the US and Australia that the members most likely to cash out are those with fewer assets, but there is also evidence that members who do not cash out do not automatically take another option, namely drawdown or annuitisation. There is also evidence that American retirees will defer making a decision, or simply preserve their savings for use at a later date.

“This exposes members to the risk of their fund being eroded by inflation or even damaged by equity markets if they choose this option in times of poorer markets, and this would suggest the asset mix would need to reflect these risks,” says Mr Charlton.

Richard Romer-Lee, managing director of Square Mile Investment Consulting and Research, says although fund management firms are developing solutions to address investors’ needs, there are already several funds that might be appropriate.

“One example is funds that seek alternative ways of providing an annuity-type income by exposing capital to a degree of risk, but without necessarily losing capital, as when buying an annuity,” he says.

“The Henderson Preference & Bond fund, which seeks to pay a high income from an actively managed portfolio of fixed income securities, with a secondary aim of preserving or even growing the capital over time, is a good example. However, it is hardly a new idea as the fund was launched in 1978.”

He also points to more recent solutions, such as the Schroder Income Maximiser range of funds and the Fidelity Enhanced Income funds. Mr Romer-Lee says these portfolios offer investors a natural income from underlying equity portfolios, enhanced by a premium received for selling call options on the stocks held in the fund – albeit perhaps at the expense of capital growth if stock prices rise sharply.

He adds that those requiring some growth in income because they live off their savings could use existing equity income funds, which should help protect the value of their income and capital in real terms, as they face the prospect of increasing longevity and the risk of inflation eroding their real value.

He cites Newton Higher Income, Aberdeen World Income, Artemis Global Income, Henderson Global Equity Income and Saracen Global Income & Growth funds, as well as multi-asset funds for greater diversification such as the Premier Multi-Asset Distribution and Multi-Asset Income and the F&C MM Navigator Distribution funds.

“Expect a raft of multi-asset income funds to be launched over the coming months and years as fund management groups seek to provide income from managed portfolios,” he says.

Cedric Bucher, head of business development at Architas, agrees that a range of income solutions is needed, using multiple asset classes, including infrastructure or alternative property.

“Downside protection will be a prominent feature,” he says. “This can be achieved through diversified multi-asset investing. However, I would not be surprised to see more structured solutions make a return to the UK market.”

As the number of individuals buying annuities at retirement decreases, a new strategy will be needed to provide a seamless transition into income drawdown.

As Dawn Kendall, senior bond strategist at Investec Wealth & Investment, says: “We are all living longer and the pension pot is being asked to feed us for longer.”