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Is your pension default fund still right for your employees?

13 February 2025
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The basic concept of the pension default fund, which is automatically selected if a defined contribution (DC) scheme member doesn’t actively choose a fund, remains unchanged.

Pension contributions are invested in a range of assets from the time that an employee joins a scheme and are managed on their behalf until their selected retirement date.

Scheme members therefore need no real investment expertise and enjoy the security of knowing that employers and trustees have a regulatory obligation to ensure that a default fund remains appropriate to its particular scheme.

Indeed, looking at the default fund is a standard part of the annual governance review that Chase de Vere carries out for clients.

But the actual asset allocations made by default funds have undergone noticeable changes during recent years and, whilst employers tend to take these messages on board during the governance reviews, the knowledge doesn’t always filter down to employees.

Educating employees

So, employers should be asking themselves whether they have made an adequate communications effort in this respect. Not only do employers have a duty of care, but the more that employees understand their pension investments the more likely they are to be able to retire when they want to – which will help succession planning.

Employees should therefore be made aware that the default fund portfolio they might have read up about when they first auto-enrolled, which could be over a decade ago in some cases – probably looked vastly different to how it does now.

One trend has been for default fund managers to move money away from UK equities towards overseas ones and also from UK gilts towards overseas bonds. Whilst this may have produced higher returns, it could have also created greater volatility.

Default funds have also been diversifying into asset classes such as infrastructure, emerging market debt and, most recently, unlisted equities.

The Mansion House Compact

11 pension firms joined forces in 2023 to sign up to the Mansion House Compact, which aims to produce better financial outcomes for DC pension savers.

Their core ambition is to increase investment in unlisted equities, with a target set for DC default funds to be allocating at least 5% of their portfolios to this asset class by 2030.

An update published by the Association of British Insurers (ABI) last July showed that the signatory firms had been making good progress and were already holding £793 million of unlisted equity assets in their DC default funds – 0.36% of their total £219 billion DC default fund value.

The unlisted securities element will hopefully produce higher returns but it also brings additional risks. In our view this still leaves default funds with a positive risk profile but we feel it is important that scheme members understand the changes that have been taking place.

Different measurements

The changing default fund landscape does not necessarily mean we are always looking to switch clients to alternatives with different providers.

Indeed, that is something we would be reluctant to do unless we felt it was really necessary because making such a switch, which involves considerations like having to change governance provision, can create significant complications and cost.

However, we have certainly felt the need to change the way we benchmark the performance of default funds.

Originally, we merely used the ABI’s Mixed Investment 40% – 85% Shares category for the purpose. But nowadays we have to incorporate other higher risk benchmarks as well.

With default fund investment now more sophisticated than ever, the title ‘balanced fund’ – which most of these funds are commonly labelled with – can construe a false sense of security by implying that the balance is correct for every scheme member.

The balance between asset classes may be very different to that of a few years ago but, as long as employees are made aware of this and are able to formulate their own opinions on the risk versus rewards suitability, this shouldn’t necessarily present problems.

If you would like to find out more about your pension default fund or about how Chase de Vere can help communicate its asset allocation and risk profile to your employees then please don’t hesitate to contact us.

The information contained within this article is for guidance only and does not constitute financial advice

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