Illiquid investment strategies implemented by Master Trusts could protect DC member’s pension outcomes despite challenges such as the cost-of-living crisis and a race to the bottom on charges, says Hymans Robertson in its latest Master Trust Default Fund Review. Analysis from the leading pensions and financial services consultancy found that historically, average returns from these types of investments would have improved net returns for members by 1-2% per year over the last decade, assuming a well-diversified approach. The report also indicates over half of the commercial Master Trust market is embracing the cost to value shift in some way, with many making a move towards investing in illiquids.

Commenting on the importance of illiquid investment strategies for Master Trusts in improving member outcomes, Callum Stewart, Head of DC Investment, Hymans Robertson, said:

“Our analysis indicates that member outcomes, which have largely reverted to pre-pandemic levels, are now under pressure from other factors, such as the war in Ukraine, the cost-of-living crisis and recent turmoil in bond markets.

“We need a forward-looking mindset when considering investment strategies to counter-act the effect of those pressures on member outcomes. There’s a compelling case for bringing illiquid alternatives, such as infrastructure and private equity, into DC default investment strategies, as these are expected to drive significant improvements in member outcomes through greater returns and improved diversification.

“To unlock this potential, we need to stop the race to the bottom on charges and ensure the positive case for delivering better value is heard. These views were backed up by the newly appointed CEO of The Pensions Regulator, Nausicaa Delfas, who said “We want industry to change its mindset. From prioritising low costs to putting value first. And by doing so to drive innovation in the interests of savers.” in a recent speech ¹ which heavily focussed on value for money.

“Providers should also assess investment platform capabilities given the integral role these perform in facilitating access to illiquid investments. Based on our analysis, the current low charge environment is limiting the potential to materially improve outcomes. For example, a 10 basis points increase in charges could support a 10% allocation to illiquid investments and at least a 10% improvement in retirement outcomes for younger savers.

“Value and outcomes should drive decisions, not cost.”

The analysis in the report looked at the three main stages of the savings journey – growth (more than 15 years from retirement), consolidation (5 to 15 years from retirement), and pre-retirement (within 5 years of retirement).

Discussing how Master Trust providers fare in the growth stage, Claire Roarty, Head of DC Provider Relations, says:

“During a 3-year period covering the pandemic and the start of the Ukraine war, growth phase members have experienced mainly positive, but varying, levels of performance. Expected outcomes for members in the growth phase are now broadly in line with pre-pandemic levels, with a more positive view on future equity market returns having significantly improved expected fund values.”

Commenting on the results in the consolidation phase, Claire says:

“For members in this phase, although expected outcomes have picked up in recent months due to a recovery in markets, they will most likely still have ground to make-up relative to pre-pandemic levels. Providers have delivered a wide range of returns for these members in recent years, ranging from -1% to +6% p.a. Our forward-looking analysis suggests that differences in investment strategy across providers mean that anticipated retirement outcomes for members could vary by as much as c.30%. across providers.”

Commenting on what has been seen for those in the pre-retirement phase Claire continues:

“Differences in pre-retirement investment strategies are evident, with wide dispersion of default fund performance and risk across providers. For someone in this phase, expected fund values at retirement are around 10% lower than at the start of 2020 under most strategies. Expected outcomes have risen a little in recent months due to the rise in equity and bond markets.”

A copy of the Master Trust Default Fund Review can be found here.

1 This speech given on 23 May 2023.