120516 calibrating dc outcomes

April 10, 2023 Copyright © DCisions Limited 2011, All Rights Reserved. Patent No. 7,844,527. 1

Calibrating DC OutcomesThree lenses on UK Workplace Savings16 May 2012

- Nigel Aston, Business Development Director, DCisions- Owen Walker, Member Nominated Director, Pearson

Group Pension Plan - Olivia Mayell, Managing Director, Global Multi-Assets,

JPMorgan Asset Management


The DC eye test


• The Scheme Lens• The Consumer Lens • The Asset Manager Lens

The Three Lenses


The data

• 1 million + real DC savers• 10,000+ schemes• 1,000+ sources of advice• Qualitative research • 24 DC asset managers


What did we find out?

• Use of multi-asset and target date funds is rising• Pure equity trackers, delivered a poorer risk/return balance

than higher charging funds• De-risking periods lengthening• Disconnect between the scheme perception of who makes

the default fund asset allocation decisions and does this in practice

• New thinking different to the received wisdom• Default funds that do not use a glide path put members at risk• Comparing default funds, like-for-like has been a challenge


Reliance on defaults – perceived risk

The perceived risk from reliance on default solutions remains a question that divides the industry into equal camps..


Member-nominated director, Pearson Group Pension PlanCommittee member, Association of Member Nominated TrusteesEditor, schemeXpert.com


Structure

• Overview of Pearson Group Pension Plan • Evolution of the DC market• Insights from other DC schemes, schemeXpert.com• Reflections


Pearson Group Pension Plan

• DB scheme open to future accrual, not new members; £2bn in assets

• DC scheme – 10,000 members (4,300 active; 5,700 deferred); auto-enrolment

• £190m of assets – doubled since March 2009• Double matching, with 8% cap on employee contribution

(16% employer)


Main priorities of the DC scheme

• Overseeing transition from Winterthur Life to Friends Life• Relaunch of members’ microsite• Assess the impact of the Bridge case• Prepare for auto-enrolment• Review of default option


Question time

What proportion of employees of the following companies are in the default?


Change in default rates


Proportion in the default fund

78%


DC fund choices

• Through Winterthur Life/Friends Life platform• 10 funds available:• Corporate bond fund• Over 15 year gilt fund• Over 5 years gilt fund• Money market fund• Passive 30:70 global equity fund• Passive UK equity fund• Passive worldwide (ex-UK) equity fund• ESG fund• Property fund• Diversified growth fund


Pearson DC default fund

DC lifestyle glide path

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

10+ 10 9 8 7 6 5 4 3 2 1 0

Years to retirement

Money market

15 years gilts

15 years corporate bonds

5 years gilts

30:70 global equity

DC lifestyle glide paths


Investment selections by age

Of £7.5m invested by under 30s:

Investment splits

Corporate bond fund

Over 15 year gilt fund

Over 5 years gilt fund

Money market fund

Passive 30:70 global equityfund

Passive UK equity fund

Passive worldwide (ex-UK)equity fund

ESG fund

Property fund

Diversified growth fund


Equity Allocations


Investment selections by age

Of the £9.1m invested by over 60s:

Equity Allocations

Corporate bond fund

Over 15 year gilt fund

Over 5 years gilt fund

Money market fund

Passive 30:70 global equityfund

Passive UK equity fund

Passive worldwide (ex-UK)equity fund

ESG fund

Property fund

Diversified growth fund


Responsibility for Asset Allocations


White labelling


IBM


IBM revamps DC default to improve flexibility

• Open DC scheme• 11,300 active members, 6,400 deferreds• Replaced default with two options:• Lifecycle – lower levels of capital risk for those

approaching retirement and relying on annuity• Lifecycle Plus – higher levels of risk in 15 years to

retirement. Aimed at members with DB savings who can afford to take more risk


ARUP


Why 83% of Arup members make max contributions

• Contract-based DC scheme with 93% take-up rate – previous DB scheme had just 63%

• Only 27% of members in default due to joining process

“The joining process we put in place was designed to prevent members going directly into the default. It sounds counter-intuitive, but we actually made it slightly harder to join and made people make more decisions when they did.”

- Rosemary Mounce, group pensions manager at Arup


Thomas Miller


Thomas Miller confronts volatility with DC default design

• Default fund originally split between passive UK equities and passive global equities, with lifestyling in final eight years

• After negative member feedback in Summer 2009, switched to:

• 50% in two absolute return funds• 25% in passive equity fund• 25% in passive global equities fund


Thomas Miller confronts volatility with DC default design

Fund fees increased, which had to be communicated

“The reasons we did this were to reduce the chance of a bad event having a big impact, and reduce the chance of different people getting very different experiences depending on when they start and stop investing. This should hopefully lead to more even outcomes across the membership.”

- Grant Lore, group pensions director at Thomas Miller


Scheme Lens: Conclusion

• It’s all about the default• Asset allocation is critical• How much fiduciary responsibility do you want to take?• Who does what?


The consumer lens - savings levels

Contribution rates vary enormously by age


De-risking?

32pc of those over 50 years of age hold 70pc equity or more in their portfolios.


It’s about individuals


Glide paths are getting longer


Consumer Lens: Conclusion

• It’s the consumer stupid!• Contributions matter• Volatility matters• Glide path matters


Who should be responsible for asset allocation?

Schemes consider themselves largely responsible for asset allocation with ‘support’ from advisers. Asset managers have a different view.


A difference of opinion?

There is a mismatch between the solutions actually being used and those recommended by asset managers.


Also a difference in fund structure

Asset managers are recommending multi-asset solutions.


Asset Manager Lens

Asset managers are reviewing strategic and tactical asset allocation more regularly.


However, which multi asset fund do you pick?

Multi-asset funds have no common benchmark to facilitate effective comparison.


Choosing the right default solution is hard

• Name• Sector• Self-diagnosed risk-rating• Objective• Marketing description• Performance against benchmark



3 yr risk-adjusted performance for by risk group.



1 yr risk-adjusted performance by risk group.


Asset Manager Lens


Asset Manager Lens

Lower priced products delivered a poorer risk/return balance.


Asset Manager Lens: Conclusion

• Choosing the right default is complex• Broad range of outcomes• Make sure you know what you’re buying• Risk-adjusted net return is critical• Fees important, but not the be-all


Olivia MayellManaging DirectorGlobal Multi Asset Group, JPMorgan Asset Management

How the industry can respond


Underlying assumption in DC industry is that plan participants understand how to invest their retirement savings

Reality is that most simply do not have time, knowledge or interest

And DC schemes often do not make it easy for participants to engage

Plan sponsors must bridge the gap between retirement vision and retirement readiness

The inertia of participants


Legislation

There are policies governments can and have implemented to encourage saving and saving in the proper way. Some examples include:

– Tax incentives to contribute to specialized retirement vehicles– Tax penalties for making early withdrawals from retirement vehicles– Automatic Enrollment (NEST)– Employer Protection (Safe Harbor)

Source: Figure 1: Huffington Post, 2010, Figure 2:PLANSPONSOR 2010. Images are for illustrative purposes only.


…but with engagement this can be changed…

20 to 29 30 to 39 40 to 49 50 to 59 60 to 69 70 and Over Overall0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

31%38%

31%

20%13%

38%

29%

87%

76%

46%

26% 28%

72%

52%

March 31, 2005

December 31, 2011

The chart shows income replacement history for J.P. Morgan contributing participants exposed to at least one Audience of One ® programme.

Assumptions: Income replacement results reflect the experience of participants earning between $14,500 and $10 million annually who were contributing to their retirement plan as of December 31, 2011. Retirement age is 65. If over 62, retirement age would be current age plus three years. Based on information provided for annual salary, state of residence, hire date, date of birth and gender. If not provided, gender defaults to female. Tax filing status defaults to single if state of residency is the same as tax filing state. Includes Social Security which is calculated based on normal Social Security retirement age, as per federal regulations. The assumed income growth rate is 5%. Income growth rate represents the average increase in salary expected over time, which is the approximate historical rate of growth (including inflation) for a typical person's salary. The projection considers the IRS annual compensation limit, indexed periodically. Contribution amount is based on current election in defined contribution plan. Annual retirement income estimate and initial risk category are calculated using the investments currently held in retirement plan account. Balances from brokerage account(s) or loan(s) will not be included in forecast. Income replacement calculation includes balances from other plans that are turned on for Retirement Dream Machine.

Participants on track to receive 70% or more of income replacement

Legislation


1990s/early 2000s - Target Date Funds

The industry’s response to challenges faced by DC participants

TARGET

DATE

FUNDS

How realistic is the fund industry’s modeling of participants’ career-long saving and spending patterns?

What is the target-date portfolio design that will best stand up to the stresses of real life saving?

Provide automatic asset allocation according to a participant's age

Invest more aggressively to build capital early in the employee’s career

Reduce exposure to market volatility to preserve capital as retirement approaches

1990s/early 2000s - Target Date Funds


Participants’ behaviour in practice is different to the theory

Contribution rates start at 6%, increase year by year, reaching 10%

of salary by age 35

Premature distributions don’t happen

Participants that remain in plan three years after retirement: 100%3

Participants get a raise every year

Common target date industry assumptions1

J.P. Morgan: Defaulted participant population2

On average, contribution rates start at 5.8% and increase slowly,

reaching 8% by age 42 and 10% not until age 55

15% of participants over age 59½ withdraw, on average, 26% of

assets


On average, participants get raises every other year

On average, contribution rates start at 5% and increase even more

slowly, reaching 8% by age 50 and 10% not until age 65

6% of defaulted participants over age 59½ withdraw, on average, 30%

of assets


On average, defaulted participants get raises every other year

J.P. Morgan: Broad participant population2

1 Source: Target-Date Retirement Funds: A Blueprint for Effective Portfolio Construction, Alliance Bernstein 2005 (white paper)2 Source: JPMorgan Retirement Plan Services participant database, 2006-2008.

3 As measured by participants over age 65 who have stopped working.


Standard Target Date Funds are not enough...

A broadly diversified portfolio • Extends beyond conventional stocks and bonds to non-traditional assets e.g. direct and public real estate, EMD and EME and High

Yield bonds

• Brings to the individual participant the diversification and risk efficiency characteristic of sophisticated institutional portfolios

• Can lead to better income replacement outcomes, especially for those participants who need it most

Volatility in participant cash flows• Must be included in plan design and the evaluation of

target date fund strategies

• Target date portfolios should not be evaluated in terms of “equity glidepaths”

• Need for broadly defined asset allocation glide paths

• Conventional risk measures e.g. Sharpe ratio

• Monte Carlo simulations that account for sequence of market returns and participant cash flows in projecting the range of DC balances at retirement

…you need a glidepath…

0%

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40 35 30 25 20 15 10 5 0 -5 -10

% of

Por

tfolio

Allo

catio

n

Years until retirement

U.S. Large Cap U.S. Small Cap EAFE Emerging Equity

Global Natural Resources REITs Commodities Emerging Market Debt

High Yield Core Fixed Income TIPS Cash Equivalents

Diversification does not guarantee investment returns and does not eliminate the risk of loss.

Source: J.P. Morgan Asset Management


J.P. Morgan Asset Management

Any forecasts, figures, opinions or investment techniques and strategies set out, unless otherwise stated, are J.P. Morgan Asset Management’s own at the date of going to print. They are considered to be accurate at the time of writing, but no warranty of accuracy is given and no liability in respect of any error or omission is accepted. They may be subject to change without reference or notification to you. The views contained herein are not to be taken as an advice or recommendation to buy or sell any investment and the material should not be relied upon as containing sufficient information to support an investment decision. It should be noted that the value of investments and the income from them may fluctuate in accordance with market conditions and taxation agreements and investors may not get back the full amount invested. Both past performance and yield may not be a reliable guide to future performance. Changes in exchange rate may have an adverse effect on the value price or income of the product.

You should also note that if you contact J.P. Morgan Asset Management by telephone those lines could be recorded and may be monitored for security and training purposes.

J.P. Morgan Asset Management is the brand name for the asset management business of JPMorgan Chase & Co and its affiliates worldwide. J.P. Morgan Asset Management is the brand for the asset management business of JPMorgan Chase & Co. and its affiliates worldwide. Issued in the UK by JPMorgan Asset Management Marketing Limited which is authorised and regulated by the Financial Services Authority. Registered in England No. 288553. Registered address: 125 London Wall, London EC2Y 5AJ.

FOR PROFESSIONAL INVESTORS ONLY | NOT FOR RETAIL USE OR DISTRIBUTION‘Professional’ means the definition for Professional clients ascribed to it within the European Union Directive 2004/39/EU on Markets in Financial Instruments (MIFD)


Conclusion

• It’s complex• Different perspectives• Form your own view• It’s all about the default• Asset allocation is critical• Choose your team carefully and review regularly• Think about your consumers


What does DCisions bring to the party?

• Calibration and context to the asset allocation decision. This brings the ability to inform plan design through the analysis of the asset allocation and outcomes of more than one million savers.

• Robust understanding of performance. Empirical data for both the risk and return delivered to real consumers shows the true picture of DC outcomes.

• Measures of value not price. Paying more to have greater intervention and flexibility may be money well spent: the analysis provides objective, robust and measurable analysis of the ‘value vs. price’ debate.

120516 calibrating dc outcomes

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