Alistair Byrne

Dynamic Lifecycle Strategies for Target DateRetirement Funds

Lifecycle funds offered to retirement plan participants gradually reduce exposure to stocks as the funds approach the target date of the participants’ retirement.The authors show that such deterministic switching rules produce inferior wealth outcomes for the investor compared to strategies that dynamically alter the allocation between growth and conservative assets based on cumulative portfolio performance relative to a set target.The dynamic allocation strategies proposed in this article exhibit almost stochastic dominance over strategies that unidirectionally switch assets without consideration of portfolio performance.

Defined Contribution pensions: Dealing with the reluctant investor

Purpose - The purpose of this paper is to provide an overview of key issues in the governance of defined contribution pension schemes, with a focus on investment matters, and to recommend best practices. Design/methodology/approach - The paper draws on the results of an online survey of the opinions of pensions professionals and on interviews with pensions professionals. Findings - The paper finds that many employers and pension scheme trustees are reluctant to take an active role in pension scheme design and to provide support and guidance to members for fear of legal liability. Scope exists for regulators and legislators to create “safe harbour” provisions that will encourage employers and trustees to become more active in supporting members. Practical implications - The paper makes a number of suggestions for best practice in the design and governance of defined contribution pension schemes, for example, in terms of the fund choice that should be offered. Originality/value - The paper provides the first comprehensive review of investment issues for UK defined contribution pension plans.

Default funds in U.K. defined-contribution plans

Most defined-contribution (DC) pension plans give members a degree of choice as to the investment strategy for their contributions. For members unable or unwilling to choose their own investment strategies, many plans also offer a default fund. This article analyzes the U.K. “stakeholder” DC plans, which must by law offer a default fund. The default funds are typically risky but vary substantially among the providers in their strategic asset allocation and in their use of life-cycle plans that reduce risk as planned retirement approaches. A stochastic simulation model demonstrates that the differences can have a significant effect on the distribution of potential pension outcomes. Most defined-contribution (DC) pension schemes give their members a degree of choice as to the investment strategy to be followed with their contributions. Many schemes also offer a default fund for members who are unable or unwilling to choose their own investment strategies. Previous research has shown that where a default fund exists, the majority of members adopt it. Therefore, the plan provider’s choice of default fund may have a significant effect on the welfare of plan members. Given the importance of the default fund decision by the pension scheme provider, we analyzed the range of default funds offered by U.K. “stakeholder” pension schemes. These schemes/plans are personal pension arrangements provided by financial institutions that operate on a DC basis. By law, they must offer a default fund. The requirement to have a default fund and the public availability of data on most schemes’ default funds allowed this study of what financial institutions think are appropriate investment strategies for so-called uninformed pension scheme members. We also analyzed the fees charged for the funds. We found the default funds to vary substantially in their strategic asset allocations and in their use of life-style profiles, which switch a member’s assets to fixed-income investments (and cash) as the planned retirement date approaches. We used a stochastic simulation model to demonstrate that the differences can have a significant effect on the likely distribution of pension outcomes. Our analysis of fees found significant variation among the funds with, for example, fees for passively managed funds not always being less than fees for active funds. Our findings raise important questions about how providers choose their default funds and about whether the choice is correlated with the characteristics of scheme members. The findings also suggest that employers need to take care in selecting a default fund because, in many cases, it will be the fund used by most of their scheme members. The variety of default fund approaches we document means that leaving the choice of default fund to the scheme provider may not result in an appropriate outcome for scheme members.Most defined-contribution (DC) pension plans give members a degree of choice as to the investment strategy for their contributions. For members unable or unwilling to choose their own investment strategies, many plans also offer a default fund. This article analyzes the U.K. “stakeholder” DC plans, which must by law offer a default fund. The default funds are typically risky but vary substantially among the providers in their strategic asset allocation and in their use of life-cycle plans that reduce risk as planned retirement approaches. A stochastic simulation model demonstrates that the differences can have a significant effect on the distribution of potential pension outcomes.

The Stakeholder Pension Lottery: An Analysis of the Default Funds in UK Stakeholder Pension Schemes

We analyse the range of default funds offered by UK stakeholder pension schemes, against the background of research that shows the majority of pension scheme members passively accept the default arrangements offered by the scheme sponsor. We find the default funds vary substantially in their strategic asset allocation and in their use of lifestyle profiles that switch the members assets to fixed-income investments as the planned retirement date approaches. We use a stochastic simulation model to demonstrate that the differences have a significant effect on the distribution of retirement income outcomes. We also find a wide range of outcomes for each type of fund, and that with commonly observed contribution rates defined-contribution pension schemes appear unlikely to replicate the levels of retirement income produced by typical defined benefit schemes.

Pension Plan Decisions

We examine the contribution and investment decisions made by members of a large UK‐based DC pension plan. We find that many employees appear to be relatively financially sophisticated and follow approaches consistent with economic and financial theory in terms of savings rates and investment strategies. However, there are also many less sophisticated employees who stick with plan default arrangements and/or follow simple rules of thumb in saving and investing. The challenge for corporate sponsors of pension plans is in designing arrangements and communication strategies that reduce the chances of these less sophisticated plan members making mistakes – in the sense of systematic deviations from optimal behaviour.

Default Funds in U.K. Defined-Contribution Plans (corrected)

Most defined-contribution (DC) pension plans give members a degree of choice as to the investment strategy for their contributions. For members unable or unwilling to choose their own investment strategies, many plans also offer a default fund. This article analyzes the U.K. “stakeholder” DC plans, which must by law offer a default fund. The default funds are typically risky but vary substantially among the providers in their strategic asset allocation and in their use of life-cycle plans that reduce risk as planned retirement approaches. A stochastic simulation model demonstrates that the differences can have a significant effect on the distribution of potential pension outcomes. Most defined-contribution (DC) pension schemes give their members a degree of choice as to the investment strategy to be followed with their contributions. Many schemes also offer a default fund for members who are unable or unwilling to choose their own investment strategies. Previous research has shown that where a default fund exists, the majority of members adopt it. Therefore, the plan provider’s choice of default fund may have a significant effect on the welfare of plan members. Given the importance of the default fund decision by the pension scheme provider, we analyzed the range of default funds offered by U.K. “stakeholder” pension schemes. These schemes/plans are personal pension arrangements provided by financial institutions that operate on a DC basis. By law, they must offer a default fund. The requirement to have a default fund and the public availability of data on most schemes’ default funds allowed this study of what financial institutions think are appropriate investment strategies for so-called uninformed pension scheme members. We also analyzed the fees charged for the funds. We found the default funds to vary substantially in their strategic asset allocations and in their use of life-style profiles, which switch a member’s assets to fixed-income investments (and cash) as the planned retirement date approaches. We used a stochastic simulation model to demonstrate that the differences can have a significant effect on the likely distribution of pension outcomes. Our analysis of fees found significant variation among the funds with, for example, fees for passively managed funds not always being less than fees for active funds. Our findings raise important questions about how providers choose their default funds and about whether the choice is correlated with the characteristics of scheme members. The findings also suggest that employers need to take care in selecting a default fund because, in many cases, it will be the fund used by most of their scheme members. The variety of default fund approaches we document means that leaving the choice of default fund to the scheme provider may not result in an appropriate outcome for scheme members.Most defined-contribution (DC) pension plans give members a degree of choice as to the investment strategy for their contributions. For members unable or unwilling to choose their own investment strategies, many plans also offer a default fund. This article analyzes the U.K. “stakeholder” DC plans, which must by law offer a default fund. The default funds are typically risky but vary substantially among the providers in their strategic asset allocation and in their use of life-cycle plans that reduce risk as planned retirement approaches. A stochastic simulation model demonstrates that the differences can have a significant effect on the distribution of potential pension outcomes.