Pensions firms warned over defined contribution schemes

There are serious shortcomings in the investment strategies of many pension schemes that could leave pensioners running low on money in their retirement.

Pension companies haven’t kept up with the times and are using out-of-date systems to assess how to invest their member’s money, according to a new report from financial services firm Aon.

It warns that most firms use lifestyle strategies consisting of three phases – early career, mid-career and pre-retirement – but that these phases are often still built around the notion that when people retire they will use their pension pot to buy an annuity.

The pension freedoms introduced in 2015 mean that upon retirement people are no longer forced to buy an annuity – that guarantees them an income for life – instead they can choose to leave their pension investments and take an income from it, or do a combination of the two.

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Aon has said that many defined contribution (DC) schemes have not reconsidered the objectives of their members as a result of the arrival of pension freedoms and this could mean they don’t have enough money saved when they come to retire.

“There is a clear need for DC schemes to check their investment objectives and to refocus on members and all their unique and evolving needs as well as the risks they are exposed to,” says Chris Inman, head of DC investment advisory at Aon.

Does your pension pot have a UK bias?

The paper also warned that many DC investment strategies are biased in favour of familiar economies in the early phase of pension saving.

According to Aon, if more than 10% of your pension pot is invested in UK equities you could have a home bias that could mean your investments are hit significantly by local political and economic events such as Brexit.

Given that pension savers are already exposed to any turbulence in the UK economy through their job prospects and the value of their homes they should consider not adding to that exposure through their pension pot.

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Pension providers must get with the times

Aon are challenging DC pension providers to bring their investment strategies up-to-date and make them reflect the modern employees' retirement objectives.

A “deep understanding of what matters to members can be used to develop bespoke investment strategies that are tailored to their unique needs and objectives,” the report states.

“Improving the value of membership in a scheme doesn’t necessarily mean using the cheapest investment strategies.”