With the recent launch of the 7th annual edition of the Pension Policy Institute’s (PPI’s) The DC Future Book,1
compiled, as it has been since its inception, in association with Columbia Threadneedle Investments, we look
at the key findings of this year’s research and what actions should be considered if good retirement outcomes
are to become the norm.
The DC Future Book
2021 sees the publication of yet another highly informative edition of The DC Future Book, the 7th in the series,
underpinned by the PPI’s fiercely independent approach to Defined Contribution (DC) research. The DC Future
Book continues to promote a better understanding of trends and themes in the UK DC pensions market and as
always, there are plenty of facts and figures to pique the interest of even the most experienced DC practitioner.
So, what are the key findings of this year’s research and what actions should be considered if good retirement
outcomes are to become the norm?
The state pension
The state pension, the first pillar of the UK pension system, inevitably comes under the spotlight, as increases
to State Pension age (SPa) continue to lag improvements in longevity and a deteriorating dependency ratio.2
This, coupled with the triple lock, introduced in 2010 and unique to the UK in striving to restore the real value of
one of the world’s least generous state pensions,3continues to ratchet up the cost of state pension provision.4
Although, in stark contrast to just 35 years ago, to be a pensioner today doesn’t, on average, mean living
in relative poverty,5for many in retirement the state pension is their main or sole source of income and will
increasingly become the mainstay of most retirement outcomes.6 Therefore, as the needs versus cost debate
remains finely balanced, perhaps it’s time to revisit the future trajectory of SPa and the viability of means testing
the state pension – just as the old age pension was when introduced in 1909.7
Auto enrolment
The PPI notes the rapid decline in private sector active Defined Benefit (DB) participation, currently at 1.1m, continues unabated, while active DC membership, at 13.7m, greatly assisted by the success of automatic
enrolment (AE), hits successive highs. However, despite 10.5m people8 having been auto enrolled into
an occupational pension scheme since 2012 and almost 1m re-enrolled, a not insignificant 10.1m of the
UK’s employed population are now ineligible for AE as a result of their age and/or level of earnings – with a
disproportionate number of these being women. Not to mention the nation’s 4.4m self employed, who are also
excluded, few of whom have any notable pension provision.9 Indeed, despite The Pensions Commission in 2004 suggesting that if you’re working you should be contributing to a pension10 and 2017’s Auto Enrolment Review
calling for reform to dramatically increase AE coverage,11 ineligibility has continued to rise and the Department of
Work and Pensions (DWP) has yet to act.
Indeed, the PPI estimates that by reducing the entry age for AE from 22 to 18 would increase eligibility by
700K, while extending the £10K earnings floor from single to multiple jobs would boost eligibility by about a
third (3.5m). The report is also explicit about the inadequacy of minimum AE contributions, at 8% of band
earnings – with PPI analysis suggesting that a contribution rate of 20% of median earnings should provide for
a more comfortable standard of living in retirement for the median earner. Of course, the question remains as
to whether £10K is an appropriate AE entry point and whether calculating contribution rates on band earnings
(£6,240-£50,270 for 2021/22), rather than from the first pound of earnings, will compromise good retirement
outcomes for low to median earners. Indeed, as Sir Steve Webb points out in his Ski Slope of Doom paper, from
earlier this year, we’re almost at peak DB pension rights, with DC, in the continued absence of materially and
sustainably higher contribution rates, proving to be a very poor substitute for DB.12
In order to avoid retirement penury becoming the norm, we should also keep a watchful eye on AE opt out rates
which, pre-pandemic consistently hovered around 9%, and pension saving persistency rates,13 which while
healthy at 70%, had started to dip pre-pandemic, especially in the public sector. Neither statistic has yet factored
in the full impact of the pandemic.
Master trusts
The report notes that the popularity of master trusts continues unabated, especially as employers’ medium of
choice for AE. Indeed, 84% of employers now use master trusts for AE – with the number of pension savers in
master trusts projected to rise from 8.7m today to 10.6m in 2041.
Median pot sizes
Intrinsically linked to AE are median DC pot sizes. Although at £11,400, the 2020 median pot size represents
a near-20% increase on 2019 (given the higher AE minimum contribution rate from 2018 flowing through to
pension pots and pension savers having had another year to build up their pots), sub-par median pot sizes
remain concerning. Likewise, the dramatic increase in the projected number of small, expensive to manage,
deferred DC pots. However, pot consolidation is likely to accelerate once pension dashboards begin to appear.
Although median DC pots at SPa are forecast by the report to grow from £38K today to £63K in 2041 (in 2021
money terms), this might still be insufficient to support a comfortable standard of living considering the ever
greater reliance on DC pots in retirement.
Asset allocation
The PPI’s annual DC Asset Allocation survey continues to grow in stature, providing us with ever greater insight
into the investment strategies run on behalf of c.20m DC members. It’s reassuring to see healthy levels of active
management and increasingly greater diversification of default fund asset mixes, though there’s still a way to go
in embracing more governance-intensive and genuinely diversifying less liquid asset classes, given the positive
cash flow and ultra-long investment horizon of most DC schemes.
Accessing pension pots
At 277,500, the report notes that the number of DC pots accessed in 2020 declined by 36% on 2019,
suggesting that savers were, understandably, cautious about accessing savings during a period of uncertainty.
A recurring theme remains the dwindling numbers, of those at retirement, seeking independent financial advice
before purchasing an annuity or income drawdown, at 19% and 42%, respectively. However, there are still
consistent numbers using Pension Wise – the government’s free-to-access pensions guidance service for those
aged 50+. While, in an ultra-low interest rate environment, it’s perhaps unsurprising to see annuity sales, at 49K
in 2020, falling to an all time low and drawdown sales, at 94K, remaining relatively buoyant, a near halving of full
cash withdrawals, to 134,500, contrasts with a sizeable minority making regular unsustainable withdrawals from
drawdown pots.14 However, the average entry size, in 2020/21, of annuities at £71K, £77K for drawdown and
£15K for full cash withdrawals, is fairly consistent with 2019/20 numbers.
DB transfers
On DB transfers, the report highlights that almost 3K people (8% of those using an IFA) insist on transferring their
DB benefits to a DC fund when advised by an IFA not to do so. Potentially one for the FCA to revisit.
Aggregate DC assets
The report suggests that aggregate UK DC assets could double from £490bn today to £995bn in 2041, a
number that could well rival the size of aggregate DB assets in 20 years time. After all, private sector active DB
membership is forecast by the report to fall from 1.1m today to 400K in 2041, not to mention the number of
transfer values and the aggregate amount of pension payments that will have been paid out over next 20 years.
The pandemic and DC investment strategies
Finally, as the DC world continues to evolve, not least against the backdrop of the global pandemic, the thematic
chapter of this year’s publication shines a spotlight on both the immediate and prospective future impacts of the
Covid-19 pandemic on the ever increasing population of UK DC pension savers and on DC schemes’ investment
strategies.
The DC Future Book notes that thanks to the quick thinking of governments and central banks, the world avoided what would otherwise have been a global economic calamity with deep seated consequences for the UK’s
burgeoning band of DC pension savers. As it proved, this quick thinking meant that many risk assets bounced back with unparalleled speed,15 some markets even surpassing pre-pandemic levels. Taken in combination with schemes’ long-term investment horizons, hence a reluctance to make significant changes to underlying asset
mixes during the period of heightened volatility, meant that most DC savers have emerged from the depths of
the pandemic less impacted than they might otherwise have been. However, had the economic and market
downturn been deeper and more protracted, the governance challenges of a number of DC schemes would
have undoubtedly been exposed, resulting in the acceleration of DC scheme consolidation and much improved governance. The PPI also notes that the pandemic has, in some instances, presented opportunities for informed investors16 and brought to light a heightened awareness of Environmental, Social and Governance (ESG), risk
factors, particularly around social issues such as health and labour practices. This shifting emphasis among
investors highlights how rapidly ESG issues can evolve, underscoring the importance of schemes being both
proactive and flexible in their approach to responsible investment considerations.
However, the report concludes that now is not the time for complacency. With the ever present threat of, largely
unforecastable, future market shocks, or black swans, lurking on the horizon, DC schemes should assess the
robustness and resilience of their default funds, in particular, by risk factors and return drivers, by conducting the
scenario analysis more commonly associated with DB schemes.
Why does this matter?
The DC Future Book explicitly recognises that, having moved from a system of generous pension provision,collective passivity and certain outcomes, where everything was done for you (DB), to one that is increasingly
less generous, with individual responsibility and less certain outcomes, where everything is down to you (DC),
addressing the inadequacy of retirement provision is fast becoming the UK’s biggest socio economic challenge.
Aside from being a valuable reference document and an invaluable source of DC thought leadership and of
informed debate and discussion, in reaching out to all stakeholders – policymakers, regulators, providers and
practitioners – The DC Future Book is also a catalyst for change. In particular, the report implicitly recognises
that, with continued policy inaction, a whole generation of people are potentially facing a worsening retirement
outlook. This includes many of the nation’s 4.4m self-employed, who increasingly operate in the gig economy,
with its meagre pensions uptake and, of course, those 10.1m employees likewise excluded from AE by virtue of
their age and/or their salary not meeting the £10K minimum. Moreover, even those who do meet the AE criteria
or who participate in other qualifying pension schemes simply do not, on average, save enough to generate
a moderate, let alone a comfortable, standard of living in retirement. This is evident from current and future
projected median DC pension pot sizes. Then there’s the dwindling numbers using independent financial advice
when accessing their pots.
Of course, while the disproportionately central role likely to be played by the state pension should prevent
a deepening of the UK’s above average old age poverty rate, a lack of decisive action means far too many
people, on current trajectories, are set to unwittingly sleepwalk into retirement penury and endure, rather than
enjoy, a retirement after a lifetime of work. While the motivation and means exists to generate better retirement
outcomes for today’s 20-, 30-, 40- and even 50-somethings, what appears to be missing is the will to develop
a better framework. Moreover, this framework could draw more extensively on good behavioural science to arrest the seemingly imminent decline in retirement living standards, by helping to guide people towards making more optimal decisions to and through retirement.17 In other words, whether a basic, moderate or comfortable
retirement becomes the norm, is largely contingent on timely and decisive action or continued inaction.
