More sustainable pensions call for transparent investments

By Dr Anna Tilba, November 2021

Some pension fund investments are better than others. Dr Anna Tilba explores how to be money-savvy about retirement savings.

Retirement saving is probably one of the most important savings we make in our lifetime, alongside saving for a house purchase. Yet, when we think about our retirement income, we probably first think about different investment plans, our contributions and contributions that our employer would make. We would also want our pension pots to be well managed. However, a regular pension saver would probably not closely interrogate how much it would cost to run a pension pot over its lifetime. This oversight can be a very expensive mistake to make if it is left unaddressed.

In my evidence submitted to the Parliamentary Inquiry into Pension Fund Costs and Charges I have emphasised that: "Pension fund investment costs differ significantly between actively managed and index-linked funds and their impact is often little understood by investors, who are not always aware that they are being overcharged... There is no conclusive evidence about higher-cost providers delivering higher performance. Indeed, there is more empirical evidence to suggest that higher-cost (active) managers charge higher fees with no corresponding performance".

Indeed, existing empirical evidence suggests that an increase of one percentage point in annual charges on pension fund investment asset management can result in a reduction in future retirement benefits of 27% after 40 years of contributions. A lack of trustee understanding of operating costs of pension funds can significantly erode our future retirement incomes. Lack of understanding of pension fund costs and charges poses some real challenges for trustees in terms of scheme governance, oversight and decision-making. Trustee work has become more difficult, not just because of legislation but also because of the sheer amount of information trustees have to process, including complex information on costs, and the decisions they have to make.

The FCA's Asset Management Market Study, to which I have extensively contributed, has brought to light significant losses in consumer value for money through unreported asset manager fees. The subsequent industry transparency cost templates initiatives by the Institutional Disclosure Working Group have given pension fund trustees a robust reporting framework to use when negotiating how much they pay to their asset managers.

However, improved transparency on investment costs is a journey on which some pension funds are more ahead than others. The Local Government Pension Scheme (LGPS) was the first to adapt and pilot the new cost transparency templates with success. Another good example can also be found in a recent report from Railpen pension fund, which is one of the UK's largest pension funds that embarked on a cost-awareness exercise. The report focused on value for money for its members and highlighted that when Railpen conducted a full cost-disclosure exercise, using the cost templates, it discovered an additional £210 million in costs on its original estimate of £80m. By the end of 2019 it was able to reduce its fund manager costs massively, adding ad valorem savings of £963 million over 8 years. Railpen saved nearly one billion pounds by demanding that its investment fund managers report on all costs using cost transparency templates and thereby being more aware of what its investments are actually worth. In so doing it was able to have a clearer picture on the value for money its asset managers deliver to the pension fund members.

In today's climate, where there is greater emphasis on sustainability of investments, thinking about how much a pension is really costing and whether it is delivering a fair return over the long term is becoming an essential 'hygiene factor' in pension fund governance. What pension fund trustees would have to do to achieve this is get the cost transparency templates, send them to their fund managers and then ask their managers to collate all the information so that they, the trustee, don't have to spend any time ploughing through and collating lots of complex data. Trustees also need to be brave enough to challenge their asset managers on costs if the latter do not provide this information.

More information on Dr Tilba's research interests.