PPI DC Future Book reveals increase in aggregate assets and contribution rates

Aggregate combined employee and employer contribution rates to defined contribution (DC) workplace schemes increased from 4.5 per cent to 7 per cent in the 12 months to the end of July 2020, the Pensions Policy Institute’s (PPI’s) DC Future Book has revealed.

The report, published in association with Columbia Threadneedle Investments, also showed that aggregate DC assets rose by £41bn to £471bn during the same period.

Median pot size increased by £300 year-on-year to reach £9,600 in 2019, which the report attributed to an increase in minimum contributions and pots having time to rise in value.

In 2020 there were around 14.6 million active DC scheme members and 6.7 million active defined benefit (DB) scheme members.

Auto-enrolment (AE) has driven an increase in DC scheme membership, with 98 per cent of employers choosing to auto-enrol their employees in DC schemes, as of March 2019.

Around 84 per cent (624,971) of employers enrolled their staff into master trusts, 10.5 per cent (77,378) into contract-based DC schemes and 5 per cent (37,205) into other DC trusts.

Just 0.5 per cent (3,371) of employers chose to enrol their staff into DB schemes and 925 opted for hybrid schemes.

As of July 2020, 10.3 million workers were auto-enrolled, up by 2 million year-on-year, although a further 9.8 million were ineligible due to age or earnings.

The report noted that lowering the age limit from 21 to 18 would increase eligibility by around 2.8 per cent and removing the lower earnings limit of £10,000 would increase eligibility by around 14 per cent.

Workers contributing “persistently”, or at least three of the last four years, declined from 77 per cent in 2016 to 70 per cent in 2019.

However, despite fears of high opt-out rates when AE was introduced, the PPI and Columbia Threadneedle found that rates have remained at around 9 per cent, as of 2018/19.

The report cited concerns that the opt-out rates may increase and saving persistency may decrease due to the Covid-19 pandemic.

“To say that much has happened over the last 12 months is an understatement,” commented Columbia Threadneedle Investments CEO, EMEA, Nick Ring. “The global Covid-19 pandemic has been complex to understand and navigate and has come at considerable human and economic cost.

“Against this backdrop it is encouraging to see continued growth in UK DC pensions assets, but we are not out of the woods yet. Over the next few years companies will have to endure an extremely testing economic environment that not all will survive.

“For DC pension scheme trustees, the challenge and opportunity lie in working with those asset managers that can uncover the pandemic’s long-term impacts and apply them to portfolios in order to manage risks and achieve sustainable long-term returns for their scheme members.”

The report estimated that a median earner contributing 8 per cent every year from the age of 22 to state pension age would only have a 50 per cent chance of having the same standard of living in retirement than they had in working life, increasing to a two-thirds chance if contributing between 11 and 14 per cent.

The proportion of DC master trust members invested in the default strategy fell from an average of 99 per cent in 2018 to 90 per cent in 2020 but remained a “significantly greater proportion than other scheme types”.

Master trusts default strategies had the highest value of aggregate assets at £1.83bn on average.

On average, master trust default strategies allocate 69 per cent of assets to equities 20 years before the members’ retirement date, before falling to an average of 26 per cent by the member's retirement date.

The paper highlighted that the use of illiquids and alternative assets is growing, although a significant proportion of this allocation is invested via listed alternatives, such as indices.

Annuity sales by ABI members has remained at around 70,000 a year between 2016 and 2019, while income drawdown has become more popular, with around 116,000 new contracts being sold in 2019.

Around 252,000 full pot lump sum withdrawals were made in 2019/20, a decrease from the high of 300,000 in 2015/16, while partial withdrawals totalled around 222,000 in 2019/20.

In 2019, the average fund size used to enter drawdown was £79,700, the average fund used to purchase an annuity was £66,000 and the average full lump sum withdrawal was around £15,000.

Savers using independent advice when purchasing drawdown products from ABI members fell from 54 per cent in 2018 to 48 per cent in 2019, while those using restricted advice remained at around 23 per cent over the same period.

The proportion of non-advised drawdown sales increased from 23 per cent to 29 per cent during the period, after falling consistently between 2016 and 2018, while the proportion of people buying annuities unadvised has grown from 70 per cent to 76 per cent.

Looking to the future, the paper predicted that there could be around 10 million active members in DC master trusts by 2040 and a further 4.1 million in other types of DC schemes, while the number of active DB scheme members was forecast to fall to 400,000.

It estimated that aggregate assets in DC schemes would grow to around £913bn in 20 years’ time, and the median DC pot size at state pension age to increase from around £35,000 to £68,000.

The DC Future Book also analysed environmental, social and governance (ESG) investment approaches available in DC schemes and the impact they may have.

It noted that schemes who do not approach ESG investments effectively may “not be achieving the best possible outcomes in terms of risk-adjusted returns and value for money”.

ESG risk factors were becoming an increasingly important consideration in investment decisions, according to the report, but noted that there was still confusion among some trustees and IGCs on the financial risk-mitigation aspects of ESG.

Furthermore, it stated that DC schemes were generally unable to engage with and influence companies on their ESG commitments as they primarily invest through pooled funds.

The Covid-19 pandemic has put ESG considerations into the spotlight, with a 530 per cent year-on-year increase in social bonds observed in 2020 as governments and corporates looked to raise funds to alleviate the pandemic.

“We have seen robust commitment from the investor community to invest in bonds that directly address the impacts of the pandemic and support affected communities,” added Ring.

“Allocating DC member assets to impact-oriented social bond strategies is one way for trustees to invest responsibly. As this year’s DC Future Book shows, there are many others, such as engaging with companies to drive change or excluding certain sectors or industries from portfolios.

“While integrating ESG considerations into investment strategies can be complex, all DC schemes regardless of size and set-up should be able to find a solution that best serves the long-term interests of their scheme members.”

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