At first glance, there’s no obvious link between the recent 150th anniversary of the outbreak of the American Civil War and the challenges facing today’s UK pension schemes.
But as a recent special report on pensions in The Economist pointed out, the last person to receive a pension based on service in that conflict died less than a decade ago. Gertrude Janeway, having married 81-year old civil war veteran John Janeway in 1927, when she was just 18, was still receiving a $70 a month widow’s pension from Washington until her death in 2003.
And Mrs Janeway was only 92. “A good innings”, certainly, but recent UK government data suggests that a quarter of today’s under-16s will live beyond a hundred, and that a baby born this year can expect to live, on average, into his or her 91st year. Meanwhile, average retirement age in the UK, though edging upwards, is still below 65 for men, and just 62 for women.
The implications for pension schemes, given the growing gap between retirement and death, are all too stark. How does a 40 year working life enable one to save enough to fund a thirty year retirement? The short answer is, of course, “it doesn’t”.
Much of the solution to this conundrum lies in structural change. We will have to work longer, retire later and save more to achieve a decent retirement income. Research carried out by MetLife for the Economist report found that in order to buy an annuity which only matches state retirement benefits, a US couple retiring at 66 would need $1.2 million.
Changes in retirement age and benefit structures are inevitable, then. But there are huge implications for the asset management industry too. The issues outlined above were identified years ago, and the asset management industry has devoted enormous amounts of time and resource to exploring ways to address them. Liability Driven Investment (LDI) first came to prominence while Mrs Janeway was still alive, prompted by new accounting rules, and has taken on a plurality of forms and meanings since then.
But while more sophisticated methods of asset liability management and liability driven investment strategies have become commonplace, particularly for long established defined benefit schemes, LDI remains an entirely reasonable, but essentially defensive approach. It addresses the funding problems stored up through decades of over-generous pension promises.
And while the vast bulk of pension assets remain in DB (defined benefit) schemes, the future is widely acknowledged to lie with new generations of defined contribution pension savers, particularly with the introduction of auto-enrolment and the National Employment Savings Trust (NEST) from next year.
Australia has become the fourth largest asset management market in the world since the introduction of compulsory pension savings in the early 1980s. In the 2008 Pensions Act, the then UK Government suggested the 2012 reforms would mean 6-10 million new pension savers paying in some £8 billion a year to DC (defined contribution) pensions. Not the kind of figure the asset management industry can afford to turn its collective nose up at.
DB pensions will continue to present their own particular challenges to those responsible for investing their assets. But future generations of DC pension savers – working, living and saving for longer, present different, and in many ways more exciting, challenges.