Pensions disappointment looms for millions
A new report highlights the many fronts on which auto-enrolment pension provision is set to fail employees.
Written by pensions expert Dr Ros Altmann, Time for Change calls for a radical shake-up in pensions thinking, to fit the new realities of 21st century lifestyles and investment prospects.
Altmann pinpoints a number of areas in which the current arrangements are set to let workers down.
Age perceptions are changing: the report finds that most 50-60 year olds do not expect to feel 'old' before they reach their 70s; almost three in 10 do not anticipate it before their 80s.
Retirement expectations are also shifting, with most respondents expecting to phase the process by working part time for a while. "This means that gearing pension saving to a specific future date is not appropriate," says Altmann.
Yet 'lifetime' or 'target date' pension funds do just this, kicking in fully from a pre-set age.
Additionally, most pension default schemes are geared to the purchase of an annuity on retirement. Yet the survey showed fewer than one in 10 financial advisers would currently recommend buying an annuity because they offer such poor value.
If investors don't necessarily buy an annuity, then it doesn't make sense to move their money into 'low risk' assets such as cash and gilts in the years approaching retirement. Indeed, says Altmann, "this way of protecting pension funds before retirement has let many people down".
First, such assets are not risk-free: "In the past year, an investment in government bonds could have lost 10% of its value as gilt yields have risen."
Secondly, they are unlikely even to keep pace with inflation. Consumer prices inflation for September stands at 2.7%, unchanged from August, and the Bank of England does not expect it to fall to less than 0.5% above the 2% target until 2015.
Altmann wants to see a move away from schemes and products geared to fixed retirement dates and automatic shifts into 'safe' bonds.
"Unless we address the inadequacies of the current pension fund default options and the scandal of poor value annuity provision, pensions are likely to disappoint," she stresses.
This article was written for our sister website Money Observer
An increase in the general level of prices that persists over a period of time. The inflation rate is a measure of the average change over a period, usually 12 months. If inflation is up 4%, this means the price of products and services is 4% higher than a year earlier, requiring we spend and extra 4% to buy the same things we bought 12 months ago and that any savings and investments must generate 4% (after any taxes) to keep pace with inflation. Since 2003, the Bank of England has used the consumer prices index (CPI) as its official measure of inflation (see also retail prices index).
The familiar name given to securities issued by the British government and issued to raise money to bridge the gap between what the government spends and what it earns in tax revenue. Back in 1997, the entire stock of outstanding gilts was £275bn; by October 2010 it had surpassed £1,000bn. Gilts are issued throughout the year by the Debt Management Office and are essentially investment bonds backed by HM Treasury & Customs and considered a very safe investment because the British government has never defaulted on its debts and this security is reflected in the UK’s AAA-rating for its debt. Gilts work in a similar way to bonds and are another variant on fixed-income securities.
Investors who borrow money they use for investment and use the securities they buy as collateral for the loan are said to be “gearing up” the portfolio (in the US, gearing is referred to as “leveraging”) and widely used by investment trusts. The greater the gearing as a proportion of the overall portfolio, the greater the potential for profit or loss. If markets rise in value, the investor can pay back the loan and retain the profit but if markets fall, the investor may not be able to cover the borrowing and interest costs, and will make a loss. Also used to describe the ratio of a company’s borrowing in relation to its market capitalisation and the gearing ratio measures the extent to which a company is funded by debt. A company with high gearing is more vulnerable to downturns in the business cycle because the company must continue to service its debt regardless of how bad sales are.
In exchange for any lump sum – usually your pension fund – an annuity is “bought” from an insurance company and provides an income for life. When you die, the income stops. Annuity rates fluctuate daily and depend on your sex (although from 21 December 2012 insurers will no longer be able to use gender as a factor when calculating annuities), age, health and a number of other factors, so you have to pick the right one and, once bought, its terms cannot be altered, so seek financial advice.