Mansion House reforms: What do they mean for DC pension arrangements?

On 10th July the Chancellor made his Mansion House speech, which set out plans to both boost returns and improve outcomes for pension savers, and increase funding liquidity for high-growth companies.

These plans are part of the government’s vision to make the UK a science and technology superpower, providing new funding and reinforcing existing initiatives in this area.

While the UK has the largest pensions market in Europe, the government believes that UK investors are not giving enough backing to domestic high-growth companies. Additionally, the government view is that DC pension schemes are not realising the returns for savers that they should be. Initiatives to counteract these challenges were announced.

Key initiatives from a DC perspective

Some of the key initiatives for DC pension schemes announced by the Chancellor were:

• Mansion House Compact: The CEOs of nine major DC providers (representing around two-thirds of the UK’s DC workplace market) have signed the ‘Mansion House Compact,’ which commits them to allocating at least 5% of their offered default funds to unlisted equities by 2030.
• Signatories are Aviva, Scottish Widows, Legal & General, Aegon, Phoenix, Nest, Smart Pension, M&G, and Mercer. The government believes this could lead to up to £50 billion of investment into high-growth companies.
• Investment in unlisted equities/growth assets: The government will look to ensure that all schemes have access to a wide range of investment vehicles, that enable them to invest quickly and effectively in unlisted high-growth companies. Ahead of the Autumn Statement, it will test options to open investment opportunities in high-growth companies to pension funds as a way of facilitating more investment and achieving economies of scale.
• DC consolidation: Legislation will be introduced to drive DC consolidation, to assist funds in maintaining a diverse portfolio of bonds, equities and unlisted assets and deliver the best possible returns for savers over the long-term. The DWP followed up on the Chancellor’s speech by publishing a raft of consultations and updates to previous consultations, on issues such as value for money in DC schemes and expanding the role of collective DC.
• Value for money framework: This framework will introduce “a clear set of comparable metrics and standards for schemes to assess value for money.” There will be three components covering: investment performance, costs and charges and quality of services. The intention is to support and accelerate the consolidation of underperforming and poorly run schemes with better run schemes, with increased powers for The Pensions Regulator to require the underperforming schemes to wind up and consolidate.
• Pension trustee skills, capability and culture: The DWP and HM Treasury have published a “call for evidence” to help improve the skills and capability of pension trustees and remove barriers to making effective investment decisions. The call for evidence looks at three areas: trustee skills and capability, the role of advice and barriers to trustee effectiveness, including duties. Pension scheme trustees, advisers, providers and others, are encouraged to respond to the call for evidence, which closes on 5 September 2023.

Our views on the Mansion House reforms:

We are largely supportive of the government direction for DC pension schemes announced by the Chancellor, although we are somewhat cautious over the focus on UK-specific investments, and would continue to recommend appropriate diversification.

We support the push on facilitating illiquid investments in DC schemes, and believe this could lead to better outcomes (over the long-term) for DC members, if implemented properly – though consideration does need to be given to the fees and the complexities that may be involved with these investments. It is also encouraging to see Mansion House Compact providers willing to support illiquid investments on their platform, by committing 5% of their default funds into unlisted equities by 2030.

There is a need for greater innovation from providers to remove the practical challenges for DC schemes (for example, pricing issues) that illiquid investments bring. A significant practical challenge for DC schemes, compared to DB schemes for example, is that money is coming in and going out of DC schemes on a daily basis. To allow fair pricing of these regular incoming and outgoing transactions, DC schemes usually use daily priced funds, and hence the underlying investment platforms and administration systems are set up to expect this.

Producing daily (or even regular) pricing for illiquid investments often needs some form of ‘manual’ modelled valuation as their very nature means they only have a visible traded value on relatively rare occasions. As a result, providing a daily price in order to be compatible with daily trading DC platforms can be a challenge. To date, there are few funds available which have packaged illiquid investments in a DC-friendly daily-priced option and DC platform providers have been cautious about accommodating non-daily priced options due to the costs and operational complexity of the changes that would be required to their systems and processes.

We believe the Mansion House reforms should go some way to address these issues. Members of the Mansion House Compact will be incentivised to find new solutions, leading to innovations in how illiquid investments are packaged for DC, and how they can be accommodated on platforms. In addition, increased consolidation of the DC market will lead to a smaller number of bigger schemes, which should have better economies of scale to undertake the work needed to integrate illiquid investment into DC schemes in an efficient way.

We also welcome the introduction of a common framework for assessing value for money for all schemes, including a prescribed list of data points that schemes may be required to disclose. Furthermore, we are glad to see that the DWP has accepted that there will be significant overlap with the Chair’s statement once the new framework is implemented and therefore proposes to phase out the Chair’s statement in its entirety once the VFM framework is phased in.

Actions that trustees can take:

We believe the following are actions that trustees could take now in light of these government initiatives:

• Digest and understand the impact on their DC pension arrangements and member outcomes.
• Consider their beliefs and policies on illiquid investments, noting the new requirement to disclose their policy on investment in illiquid assets in their Statement of Investment Principles from the earlier of the first date on which the SIP is revised after 1 October 2023 and 1 October 2024.
• Consider what training they need on illiquid investments, understand what opportunities are currently available to them, and whether these are appropriate for their scheme based on the membership profile.