Individuals who are invested in the defined contribution (DC) default fund with the worst performance could be missing out on over £300,000 of additional savings by the time they are 55, research from JLT Employee Benefits has shown.
The company analysed the annualised performance over the last five years for the 10-main auto-enrolment providers’ default funds, finding that it ranges from 6.3 per cent to 12.5 per cent.
A JLT spokesperson declined to disclose, however, the names of the included providers and their individual returns.
According to Hargreaves Lansdown recent data on this matter showed Scottish Widows' default fund delivered the best return at 12.5 per cent over five years.
On the other hand, Hargreaves Lansdown reported Standard Life’s auto-enrolment default, Active Plus III fund, had the lowest returns, at 8.21 per cent.
According to Maria Nazarova-Doyle, head of DC investment consulting at JLT, the disparity in “strategies and risk-return profiles could lead to a huge retirement shortfall, amounting to the equivalent of a property."
With 92 per cent of savers invested in a default strategy, these finding underline the magnitude of employers’ responsibility in selecting a good quality default, Ms Nazarova-Doyle said.
The research also found that the funds with better returns two years ago, didn’t necessarily remain the best ones in the market.
This highlights the need for employers to monitor their default fund in order to identify any drop in performance, Ms Nazarova-Doyle added.
She said: “It is tempting for employers to focus on keeping costs down, which is entirely understandable, but it shouldn’t be to the detriment of fund selection.
“Statutory contributions are set to quadruple from 2 per cent to 8 per cent in the next two years and this is a step in the right direction.
"However, this would have a limited impact if it isn’t backed up with sound investment decisions.”
JLT gave some case studies to exemplify the discrepancies between default funds.
For example, a man is in his early twenties who earns £22,000 per year is just starting to save into a pension with work.
The man and his employer are making minimum auto-enrolment contributions of 2 per cent.
Although he has no pension savings yet, he has many years ahead of him to work and save.
In an extreme scenario, whereby the returns over the last five years continue at the same level over the accumulation period, JLT has estimated the value of the man’s pension at the age of 55, which is the earliest time they can draw their benefits.
He will have £155,477 in his pension pot if he invested in the worst default fund.
However, if he chose the best performing default fund, he will have £525,586 in savings.
According to Steve Carlson, chartered financial planner at Cardiff-based Carlson Wealth Management, “most of the focus on workplace pensions has been about cost as that is easy to understand and compare”.
However, Mr Carlson said the “eventual size of people’s pension pots is determined by how much they put in for how long and what the net returns after costs are."