Stock market volatility may be cause for concern for member of DC†pension schemes, so employers must ensure that they are kept informed about their investment options, says Katrina McKeever
A common gripe among employers is that staff often fail to engage with their defined contribution (DC) pensions provision, particularly when it comes to investment choices and many simply opt for the default fund. But now this could be set to change as many members of DC schemes, whether in a trust-based or contract-based plan, will inevitably become concerned about the performance of their investments in a time of extreme stock market volatility during the economic downturn.
Not all employees will have expressed these fears yet, as many may not fully understand or appreciate how the markets could affect their DC pension. Employers should therefore make sure they are prepared to answer any questions staff may have about the performance of their funds.
But there is no need for employers to panic. Although Fidelity International, for example, reported a 20% increase in calls to a helpline run for clients' employees this autumn, most simply wanted reassurance and information, says Julian Webb, the firm's head of UK business development. "What they are looking for is any sort of toxic debt or investment in Iceland or Lehman Brothers, for example. It is really about what they are reading in the press, and we can reassure them and inform them of the structure of their fund."
To ensure employees better understand how their pension is likely to be affected, employers should consider explaining the their scheme's investment structure to staff and point out the link between the stock market and the pension fund. Many DC default funds will have been invested in 100% equities, so will have suffered a hit, but the stock market is a rollercoaster ride and the FTSE has already shown signs of recovery.
For most DC scheme members, the best option is to do nothing, says Webb. Shifting out of an equity fund at the moment, for example, will simply lock in any losses that have occurred. DC funds are still relatively new, so most members will have time on their side and will simply require reassurance from their employer. However, employees closer to retirement will require more in-depth guidance about the best course of action.
Now is also a good time for employers to review their communications strategy around DC schemes, looking at whether the information available to staff is still relevant in the current economic climate. For example, employers might consider moving communications online to provide instant access to news about funds, allowing staff to engage with their pension all year round, rather than waiting for an annual statement. Organisations that provide access to online information can encourage members to look at their fund regularly to monitor its performance. Employers could also consider carrying out further communications, such as roadshows or one-to-one meetings, to provide more reassurance.
Raj Mody, partner in PriceWaterhouseCoopers' pension practice, says: "It is really critical for employers, and trustees if it is a trust-based scheme, to communicate the nature of these investments. For example, an equity tracker fund may have been communicated to new members as a low-risk option, but it is now not low risk."
A further issue employers may want to encourage staff to consider is the level of risk they wish to be exposed to long term. Employers must, however, be careful not to offer financial advice.
Going forward, employers and trustees might consider revising their default fund strategy to insulate fledgling funds from the extreme stock market conditions seen over the past few months. Webb says: "The one thing that 5.3 million DC members needed going into the credit crunch was the one thing they didn't have: good diversification."
He suggests employers should talk to staff about diversifying their investment choices, for example switching out of 100% equity funds and adding property, cash or bonds. "Short term, there won't be huge deviations of performance, which can be quite worrying for new members, particularly if they have been in the plan for only a few years and have seen their benefits go down by 30% or more. Employers want to avoid people opting out of DC because, over the long term, things will turn round. Short-term volatility can sometimes put people off."†
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Defined contribution (DC) scheme members do not appear to be panicking about the impact of the credit crunch on their pensions, but employers should be prepared to deal with their concerns.
For most DC scheme members, moving out of equity funds now will simply lock in losses, and employers should ensure this is understood.
Employers should develop a communication strategy which explains investments to staff in a way that they can understand.
Employers should also consider reviewing their default fund strategy.