Jeremy Hunt and his plans for your pension

The chancellor wants pension funds to invest more money in UK Plc to drive growth, but will it happen? Rachel Lacey examines the current predicament and finds out what the experts think.

Chancellor Jeremy Hunt has raised the hackles of many in the UK pensions industry following comments around forcing defined contribution schemes to invest in riskier UK assets.

“The cries of ‘hands off our pensions’ are almost audible as Jeremy Hunt considers how to encourage more UK investment from pension savers’ hard-earned pension pots,” says Alice Guy, head of pensions at interactive investor.

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Speaking in Washington at the start of April, Hunt commented that UK pensions were in need of urgent reform to ensure that UK workers get the returns they need for a comfortable retirement.

This, he suggested, could be accomplished by freeing up pension funds to invest in a broader range of assets including both infrastructure and start-up businesses within the UK. He is also reported to favour increased consolidation of pension funds as a means of boosting returns.

Steve Webb, partner at consultancy LCP, explains: “The government takes the view that there are far too many very small defined contribution schemes in the UK, and they should be forced to amalgamate; it believes that when you have scale you can first build up the expertise to understand a wider range of asset classes and second allocate meaningful sums to illiquid investments such as infrastructure and so on.”

Another option the government is considering is a relaxation of the defined contribution charge cap. This would enable pensions to invest in funds with performance fees that would otherwise breach the cap.

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Such moves would follow the lead of other countries, including Australia and Canada.

But is the chancellor really concerned about boosting returns for UK savers or giving British business a boost?

Tom McPhail, director of public affairs at consultancy The Lang Cat says: “There's a long history of chancellors looking to our pension savings as a handy pot of money to help deliver on their latest policy idea. He seems to be arguing investors are missing out on possible higher returns, if only they would invest in British enterprise and infrastructure but I'm not sure it is the savers' interests he's most concerned with. Taking advice from a politician on where to invest your money doesn't look to me like a sure road to a wealthy retirement.”

Guy adds: “He will need to tread carefully as telling pension savers where to invest could be deeply unpopular. Larger workplace pension providers have a fiduciary duty to their members and need to put their interests first to make sure they have enough income in retirement. The UK has historically lagged US performance and large pension funds will be reluctant to commit too much investment to UK companies, especially riskier start-ups.”

It's not only defined contribution pensions that have been shunning UK investments - it’s a similar story with defined benefit schemes. Trustees have a duty to invest in a way that ensures there’s enough money to pay their members’ pensions. And in striving to do that, their exposure to UK equities has plummeted from around 50% in the early 1990s to under 2% by March last year (1). “This mass exodus from UK equities has arguably contributed to lagging UK equity prices,” says Guy.

She adds: “It's all very well to trumpet the benefits of private equity investment, but much of the kind of stellar returns seen over the past 30 years were achieved in an ultra-low interest environment we are unlikely to see repeated. In any case, long-term investors are well versed in the importance of diversification and they may prefer a global private equity fund or at least the option to invest elsewhere.”

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Although the chancellor has said that he’s uncomfortable with the idea of mandating where pension funds invest, the idea hasn’t been taken off the table either, and more details are expected in July’s Mansion House speech.

Guy says: “Given widespread pushback from the pension industry, Hunt will find it difficult to attempt to force more UK investment. However, he might consider a carrot and stick approach. He could potentially make some tax relief conditional on investing in a UK investment fund, or he could offer incentives like a higher annual allowance depending on investor behaviour.” 

McPhail agrees. “We might see tax incentives for schemes to invest in UK stocks or penalties if they don’t,” he suggests.

However, he adds that the chancellor could effectively achieve his goal in a more underhand way. “The more subtle weapon the government could employ is the Value for Money framework the DWP has been working on. By dictating what good value for money looks like and by tightening the regulatory controls on schemes, it could force an outcome where we have fewer, bigger and better-run pension schemes.”

“This wouldn’t necessarily be a bad outcome and could in turn lead to schemes allocating more money (but still a small proportion of their overall assets) to the kind of enterprise investments the chancellor is so keen to promote.”

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Steve Webb, is also reasonably pragmatic about the chancellor’s proposals, but, like most, he’s uncomfortable with the way he could go about it.

“To the extent that there are simply barriers which stop DC schemes investing in things which would be a ‘good deal for their members’, then there is no problem with the government’s agenda. And it’s probably true that there are plenty of ‘sub scale’ DC schemes who could in any case benefit from being part of something bigger.

“But the government should not, in general, be mandating what pension funds invest in and it should really be listening to schemes about the real barriers to this kind of investment. This can include things like fact that if you are heading for a buy-out with an insurance company, you may be less willing to hold long-term or illiquid assets. It’s not about a lack of knowledge from pension schemes.”