As we emerge into a post- Covid-19 world, it seems that everything has changed. Work, school, leisure and even mundane tasks are radically different to six months ago.
As citizens, we readjust and adapt until it all begins to feel normal – but as investors, can we take the same approach?
After the pandemic caused the biggest market upset in a generation – and offers no guarantee it cannot happen again – should those overseeing defined contribution schemes be putting in place measures to safeguard members’ futures?
Know when to hold ‘em
For JP Crowley, principal at Mercer, it is too early to draw any firm conclusions around if or how long- term market assumptions should change after the crash and implementation of subsequent global recovery packages.
“There is little or no clarity as to where investment markets will go from here over the short-to- medium term,” he says. “Yes, the monetary and fiscal response has been unprecedented, which may well spur markets on over the near term, assuming emergence from lockdown is not thrown off course, but the increased debt levels will need to be accounted for at some point.”
Even in the short term, Hymans Robertson senior investment consultant Rona Train thinks some caution is needed before DC schemes start to change tack.
“Markets remain vulnerable to shocks, particularly if there is a second wave of the virus,” she says. “However, for DC members who are many years from retirement and invested heavily in equities, the ‘blip’ that we’ve seen in equity markets in recent months is likely to prove to be a tiny fall in an otherwise likely upward trend in the value of their pension savings over time.”
Moving around asset allocation for those early on in their savings journey now may result in either missing opportunities as equities rebound or eroding any returns through excess trading fees and charges. Importantly, unless the scheme has the correct governance structure in place, any sudden changes to an investment strategy could be disastrous.
“How many years’ contributions would it take to make up any falls in markets on the value of the pension pot?” asks Train. “For young members, it can be as little a one year of contributions to make up the loss. On this basis, members at younger ages should embrace rather than fear market volatility.”
Know when to fold ‘em
But at the other end of the equation, should those nearing retirement be radically rethinking how they invest?
Not according to Smart Pension strategy director Shri Krishnansen, who noted that a robust DC plan should have been gradually moving its members away from volatile equity markets even before the pandemic hit. Those that were most at risk from these market swings should have already been in a de-risking phase, which introduces allocations to lower risk assets like bonds, he says.
However, even the best-laid plans need careful oversight, and Covid-19 has proved a useful catalyst to check them over.
“The volatility of recent months and the emergence of a new and very meaningful tail risk may lead schemes to reassess risk assumptions around lifestyle strategies,” says Krishnansen. “At the very least, schemes should stress test their lifestyle strategies to ensure they are providing sufficient downside protection in the run-up to retirement.”
For Crowley at Mercer, trustees should be satisfying themselves that appropriate levels of risk are being taken at different stages of a member’s working life and while “not dismissive of significant volatility being experienced year- to-date”, he does not see this as a single reason to change the long- term strategic aspects of how default is designed.
“Depending on where the DC default is starting from, there’s lots of things that could be considered in terms of underlying investment mix used,” he says, “including different equity types, growth fixed income and illiquid strategies.”
At Hymans Roberts, Train says DC schemes need to retain focus on one main issue: “It’s critical at this stage of a default investment strategy to manage the downside risk and to make sure that the glidepath to retirement actually targets what members are expected to do at the point of retirement, for example taking all their pot as cash or moving it into drawdown.”
Time enough for countin’
The one fear for members of all ages, however, is inflation. It can eat away at long-term savings just as it can erode the power of spending in decumulation, and after generous monetary and fiscal policies, adding to a decade of low interest rates, it is important for DC schemes to take note.
“Asset allocators will have to answer to a simple question: will this generate inflation?” suggests Cardano group chief investment officer Marino Valensise. “The answer will have profound repercussions on the way portfolios get allocated.”
In the short term, Valensise sees global demand remaining extremely weak and inflation is unlikely to materialise. In the long run, however, several factors may suggest this may change.
“The enormous amount of money that has been created will begin to move faster in the economy and activity will pick up,” he says. At the same time, globalisation is under threat, with potential consequences on supply chains and cost of production, due to reshoring of production facilities.
“More than ever, these extraordinary times require asset allocators to build robust portfolios with a degree of economic balance,” he says. “Do not lose faith in growth assets, but balance allocations with the most effective diversifiers and portfolio protection.”