It’s easy to underestimate just how important the FCA sees its new investment pathways initiative, which came into effect last month, and the extent to which it symbolises its changing approach to regulation.
A speech in 2019 by acting CEO Chris Woolard sums it up well. He said: “The demand from the public is clear – they don’t care if a set of rules has been followed, they care about the outcome they receive. “Despite the warnings and free guidance, 100,000 people every year were drawing down without getting advice. Many were ending up in investments that would not meet their needs. So, we have gone for something far more radical.”
Those sitting in cash were viewed as particularly problematical. AJ Bell senior technical consultant Rachel Vahey says: “The FCA developed the regulations for investment pathways to solve a particular problem. It was worried that too many non-advised customers were not engaging with the question of how to invest their drawdown pot, and therefore were leaving a significant chunk of their money invested in cash. The investment pathway process is therefore intended to stop this; by asking if people need help investing their drawdown pot depending on what they want to achieve in drawdown over the next five years, and by asking them to make an active decision to invest in cash.”
But will there be significant read across to occupational pensions and what do pathways mean for advised clients?
PTL managing director Richard Butcher says: “Very few non-commercial DC trust-based schemes are providing post retirement solutions.
“For them, pathways have no formal influence. However, it would be daft to ignore what might happen to a member once they retire – so informally yes they do. This can be especially the case where a trust has buddied up with a master trust for decumulation. t is simply more efficient to have some degree of correlation between the investment strategies of the two vehicles.
“In the case of the commercial DC trusts, many of them are insured, with the provider having an analogous book of WPPs. They are tending to treat the two books in the same way.”
Butcher also notes that TPR and the FCA are trying to create a common regulatory framework. “What one does tends to get copied across in due course. This could imply TPR will look to import some of the pathways principle nto the trust world.”
Hymans Robertson head of products Karen Brolly says: “While investment pathways are primarily about non-advised customers in the drawdown market, it is something that both advisers and workplace schemes should be thinking about.
“Where members of workplace pensions have the option to take regular income, through a flexible drawdown arrangement, without transferring to another plan, then investment pathways will come directly into play and would need to be a bolt-on to the workplace scheme.”
She says workplace schemes will need to consider both a fund solution to offer under each pathway and how best to engage with and assist members as the make their choices under drawdown.
“Another area where there will be activity is for the IGCs who have had their remit extended to include governance matters around the appropriateness of pathways solutions and their value for money.”
Brolly adds that the general feeling is that retirees do need support at the point of taking lump sums and starting drawdown and that defaults for drawdown will become just as important as they have in the accumulation phase. “Workplace schemes are a great place for this support to be provided and as such there is a lot of scope for those schemes to get involved in pathways,” she says.
Aon principal consultant Steven Leigh says: “This is a positive move from the FCA as most contract- based plans do now offer accumulation and decumulation solutions. The question then shifts to do employers review the decumulation part of the plan or decumulation market thoroughly enough for their members?
“Historically employers will have only reviewed the accumulation phase and won’t have assessed decumulation. This is particularly true with contract- based plans already in existence. It is good news that investment pathways should offer simple options for members that are unadvised. However, the investment pathway descriptions are rather vague, deliberately so, for a catch all approach. This does raise some concerns that the solutions in each investment pathway could potentially be sub optimal for members, as each contract-based provider has used their interpretation of the investment pathway descriptions to offer appropriate solutions.”
Independent governance committees have also been given a role in overseeing pathways arou nd c ommu ni c a t i ons, appropriateness and value for money.
It is also clear that financial advisers will, at the very least, have to be mindful of the change with a new piece of guidance added to the adviser COBS handbook. COBS 9.3.3A says: “When a firm is making a personal recommendation about the client’s capped drawdown pension fund or flexi-access pension fund, the suitability assessment should include consideration of pathway investments”.
The Lang Cat consulting director Mike Barrett says: “Advisers who have a good relationship with their clients will have little to fear from investment pathways. The guidance is worth following, if for no other reason than by considering the pathway investments that the current provider will be suggesting, you might decide these represent the best solution for your clients to adopt.”
Some advisers who advise both workplace and individual schemes are even more sceptical. CanScot Solutions principal Robert Reid suggests that pathways are “an accident waiting to happen”.
He suggests you could easily place an investor into a pathway, saying they want to invest beyond five years, but who then start withdrawing significant funds. Tracking their behaviour will be essential as there is a requirement to check ongoing the FCA has not indicated what variance is acceptable.
He worries that very similar clients could end up invested in a pathway with the same “objective” but with different providers leading them to being in funds with very different equity mixes and outcomes.
He predicts pathways signal much more regulatory intervention and not just for traditional providers. “The people running master trusts really need to get ready to shoulder more regulation. I can’t see them being allowed to avoid responsibilities much longer.”
Leigh says: “Looking at master trust workplace pension schemes that offer drawdown “in-scheme”, they generally already have well- de f i ne d, p ost -re t i re me n t investment choices which align with the accumulation default investment design – for example, the Aon Master Trust. So there is much less of a need to introduce specific investment pathways in line with the FCA approach for contract based schemes. Indeed, many master trust arrangements have spent significant time and effort developing post retirement solutions that align with member needs.
“In the own-trust market, our research shows that only around one in three own-trust based schemes currently have any type of “preferred drawdown option” for members, with the vast majority of these involving a transfer out of the scheme into a separate drawdown vehicle. In four out of five cases, this is operated by the same provider as used for accumulation, so there is not much evidence of trust-based schemes shopping around for the most appropriate solution for members post retirement.
“However, we are expecting to see this change over the next few years as part of a greater drive to supporting members at retirement, particularly as the numbers retiring with DC funds and the DC funds sizes at retirement increase. Rather than take on the extra responsibility for post-retirement benefits within the scheme, we expect DC trustees are more likely to sign-post members to a drawdown vehicle where they have undertaken some due diligence, including considering the investment options available and perhaps comparing retirement pathways.”
He says that where schemes are not offering any post- retirement options for members, many already align with the general aims of three of the four investment pathways in their accumulation investment design, i.e. offering lifestyle or target date investment options which automatically switch members into investment types which aim to be suitable to be taken as cash lump sums over the short-term, converted to an annuity or to remain invested while taking flexible income.
“It remains to be seen whether schemes will add a fourth option to align with the ‘no plans to touch my money for the next 5 years’ retirement pathway, but many might argue an option is that members in this situation just need to push back their target retirement date and then the existing accumulation investment options will be suitable as their savings will revert back into a “growth” targeting investment phase,” he adds.
There are now calls for an extension of the pathways work and a new statutory requirement for schemes.
PLSA director of policy and advocacy Nigel Peaple says: “We do not want to replace the pathways with something totally new, but to build upon the foundation that is in place. We recommend the introduction of a statutory requirement on pension schemes to support their members when they are making decisions about access. The framework will also deliver a set of minimum standards for the saver communication and engagement journey, as well as product design and governance. These proposals aim to bridge the gap between the inertia that makes AE such a success and the potentially confusing choices for savers when electing how to draw their pension at retirement.”
Vahey adds: “It will be interesting to see in a year’s time – at the review of investment pathways – how many people have opted for them in practice. The FCA’s aims are laudable, but perhaps they could have been achieved in a different and less prescriptive way.”
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