What Does the Pension Charge Cap Mean for You?

Emma Wall: Hello and welcome to the Morningstar series 'Ask the Expert'. I'm Emma Wall and here with me today is Mark Polson of The Lang Cat. Hello, Mark.

Mark Polson: Hi.

Wall: So the second in our mini-series about charges. Today I thought we’d talk about pension charges. The charge cap on pensions, it was pushed to and fro, to you to me, but it is finally coming in now April 2015. What will this actually mean for pension savers?

Polson: Well it is important to note that lots of pension savers are already in schemes which are underneath the charge cap. So for them there won’t be much change. However, if you're in a small scheme you may well be above the 0.75% and in that situation the provider is going to have to reduce charges. So that feels like it is really good, because you are going to get charged less and that’s fine.

However, nothing happens for free and we would expect to see some other changes coming in there as well. So, for example, within the higher charge that you might be suffering, as an investor in the pension scheme, you may have some really nice options opened to you in terms of other funds that you can invest in. There might be some flexibility around contributions that you can take advantage of and so on, and so on, and so on. You might see some of those things start to tighten up a little bit.

So it's fine to have a very low charge pension scheme if all you ever use is the basic stuff. But what if it was basic, but if you want to do anything clever then there were additional charges on top and so on and so on. The fact is most investors in pension schemes aren’t really investors. They are pension savers. And most people don’t want to engage particularly with the fund range that is there, which is why 90% plus of people go into the default fund.

Now the thing that default fund is it might be great. Or it might just be all right. And if you design – there is old thing about if you design a horse by committee it will be like a camel right? And a lot of default funds are pretty camel shaped, because they are trying to do something for everyone and you hear people say ‘Yes, but the British consumer is risk averse and doesn’t like the style and the other’. I know lots of difference kinds of people and some are risk-averse, and some aren't. And imagine anybody watching this is the same. So it's unlikely the default fund can ever be anything more than a kind of half a loaf answer to where is the best place to put my pension savings.

Wall: But over 95% of people go into their default, I mean NEST, the government-backed auto enrolment scheme for companies who don't want to make their own arrangements. More than 95%, in fact I think almost 99% of people are in the NEST default. That already comes under 0.75%, but all those default schemes will have to come under 0.75%. That sounds like a low figure as you say.

But also investors want the best that their money can buy. So to use a sort of star manager example; people are aware of fund managers such as Anthony Bolton, Richard Buxton, Neil Woodford. All of those guys come in at 1%, that’s over the 0.75%. So how are default fund trustees going to get access to the sort of things that are going to deliver them the long-term profitable performance for the scheme members?

Polson: So there is a strong argument in there that says; ‘What are you really looking for?’ Are you looking to spot hot manager and yes, we can the two or three out of the dozens that have delivered some kind of performance. Well that’s fine. One of the great things about pension funds, if they are run collectively is that the people running them can parcel out chunks of money to different people.

Now a retail investor who even has a good chunk of money £50,000 or £100,000 will only ever be able to access retail versions of that fund which will be at 1% if they do it through a platform they might get it for 0.75% or little bit less. But in their company pension, it's going to be the figure that you mentioned and sometimes higher.

Now trustees and pension funds have access to super double-secret share class that you can't get as an individual and that’s because they are dealing in millions, tens of millions, sometimes more, sometimes hundreds of million at a time. And it's being bought as a mandate, we call it. So the trustees with their advisors have decided that 27.8% of the scheme's assets should be in U.K. large cap equities and we like Ms. McGlinchey's fund managers for U.K. equities, so they all pootle off and what the best price they can get is. And that’s fine so you can get exposure in those kind of situations.

For the most part for very long-term savings which is what we are talking about often in pensions 40, 45 year time horizons for when you are starting out. The idea of actively picking active managers is very hard to do while keeping cost down, because a lot of analysis has to go into that and that has to be paid for and that’s why you do see a lot of passive investments being used inside the pension funds because performance is uncertain, charges are certain.

So we'll deal with what we know and we might sacrifice some outperformance, but equally if we are going to generate that outperformance which we call alpha in the industry we need to probably accept some additional risk, because Neil Woodford has made some incredible bets, he could make some bad ones.

Anthony Bolton ran astonishing amounts of money in Fidelity and then stepped out to do something different and he's found it really challenging to do that. So if you followed Bolton you are experience has not been the same after leaving Fidelity as it was when he was there. Not to say he's a bad guy or anything, it's just that life's a bit more difficult.

Pension funds kind of feel to me like that’s the place that you want to just to do what it needs to do and if that means accepting market returns, keeping the cost right down that’s fine. I think it's worth saying now, that it's much easier for investors to get their hands on their pension money not to spend, though there will be some changes coming up next year to help that as well. But to invest in a way that they want so they could move it out of their employer’s pension and into a self-invested pension or one based on an investment platform or something like that. And that’s going to give them access to the world.

So if you are frustrated that you are scheme as it stands doesn’t let you shoot the lights out, well probably this scheme is a wrong place to do it. Clear your money, go somewhere else and shoot the lights out, but be ready to accept the consequences if you don’t manage and it is just a risk reward thing all over the place in the funds, but also in your behavior as a pension saver.

Wall: Mark, thank you very much.

Polson: Pleasure.

Wall: This is Emma Wall for Morningstar. Thank you for watching.