Competition in retirement market is not working

Pensions - thumbnail

A failure by many consumers to shop around or switch provider to get the best annuity deal proves that competition in the retirement market is not working as well as it could be, according to research by the Financial Conduct Authority (FCA).

The regulator’s Retirement income market study, which examined products purchased by UK consumers with their defined contribution pension pots that provide an income in retirement, found that customers’ tendency to buy products from their existing pensions provider weakens competitive pressure on incumbent firms.

This also makes it harder for competing provider to attract a critical mass of customers.

The market study also found that for people with average-sized pension pots, the right annuity purchased on the open market offers good value for money relative to alternative drawdown strategies, and may therefore be a good option for those with low risk appetites.

It found a number of reasons why employees do not exercise the open market, which include:

The report also sets out a number of proposed remedies to address the concerns, with a focus on stopping things getting in the way of retirement choice, as well as improving clarity and simplicity of communication between firms and employees.

The FCA wants providers to design and sell retirement income products that meet employee needs and provide good value. It expects to see more hybrid products to emerge, combining annuity and drawdown features.

The FCA has also published a thematic review into annuities sales practices, which found that eight out of 10 (80%) consumers who purchase their annuity from their existing provider could get a better deal on the open market.

It identified two groups of consumers who are particularly at risk of not getting a good deal:

  • Those with small pension funds, who are generally offered lower annuity rates than those with larger funds and have less choice of providers on the open market.
  • Those who would be eligible for an enhanced annuity, but do not explore this option stand to gain the most from shopping around. But they also need to be aware of and understand their potential eligibility for an enhanced annuity.

Malcom McLean, senior consultant at Barnett Waddingham, said: “It is interesting to note that the FCA is still convinced that for people with average-sized pension pots, the right annuity purchased on the open market offers good value for money.

“It is disappointing however, that after two years the FCA has still not completed its full review of the annuity sales process and will still be conducting further investigations into the workings of the market, which back in February it described as a disorderly market.

“The recommendations the FCA has made in the first report certainly have merit, in particular the need to replace the wake-up pack, which in its present form is clearly not working. Also, the idea of a ‘pensions dashboard’ or ‘pensions passport’, which advocates have previously suggested, is worth pursuing in the interests of enabling consumers to view all their lifetime pension savings (including their state pension) in one place.”

Tom McPhail, head of pensions research at Hargreaves Lansdown, added: ”The FCA has not found any evidence of widespread misselling of annuities, there is no smoking gun. In fact it has gone further than that by explicitly endorsing annuities as good value for money, but only if customers shop around on the open market.

It has, however, established that competition does not work well in the retirement income market. Significant changes need to be made to the way the pensions industry helps its customers to get the best value from their retirement savings. 

“The communications sent to retiring customers, the wake up packs and the ABI [Association of British Insurers] Code of Conduct are not having the desired effect, and the FCA has confirmed its intention for a radical rethink. This is welcome news, coming as it does just a few months ahead of the new pension access freedoms.”