Decumulation pathways in the digital age

09 Mar 2022

The Financial Conduct Authority (FCA) launched investment pathways last year, to help non-advised customers as they approach the transition from accumulation to decumulation.

The theory was to increase engagement in the range of options open to policyholders in the wake of pension freedoms and at the same time address growing numbers who had taken their tax-free cash and left the other three-quarters of the pot held in cash.

During the last few weeks, we found out from one major UK self-directed investment platform, Interactive Investor (II), that only 5% of all its customers starting their decumulation journeys during the last year considered the four investment pathway options mandated by regulation… and only 1% went on to actually purchase one of these options.

II found that, out of the 1% of savers who had chosen one of their pathways, Option 1 (no plans to touch money soon) had been the most popular choice, followed by Option 3 (drawdown). None of them took Option 2 (annuity) or 4 (cashing-in).

Based on these results the platform called for the FCA to review the Pathways with a view to further simplification. It is tempting to conclude that even describing the choices in ‘layman's terms' does not lead to engaged consumers. What next?

Accumulation pathway

It is a welcome relief to see that the FCA's Consultation Paper 21/32 does not ask savers in the accumulation phase to exercise investment choice. The regulator's proposal, which closes its consultation phase this month, is likely to require non-workplace pension providers including life assurers, SIPP operators and platform providers to:

1. Offer a 'default' investment option to new non-advised consumers

This will need to be a professionally designed investment strategy compatible with the needs of the firms' typical non-advised consumer to build their pension savings. It will be a single default, but ‘lifestyled' so that the risk profile is lowered as savers approach retirement age. Consumers will have to opt-in to this default, so it is not totally automatic. However, it will be backed up by the FCA's second proposal:

2. Issue cash warnings to consumers with sustained and potentially inappropriate levels of cash in their non-workplace pension

Cash warnings would show how cash savings are at risk of being eroded by inflation and prompt consumers to consider investing in other assets with the potential for growth (such as a default option, if available). These warnings may need to be sent if more than 25% of non-workplace policyholders' savings are held in cash and that cash pile adds up to more than £1,000 and the policyholder is more than five years away from normal minimum pension age (55 today). The cash warning might come with a generic illustration showing how erosion by inflation would impact a £10,000 pot over 10 years.

We are likely to see the final rules published before the end of 2022 on rolling out an accumulation phase investment default option as well as rules on delivery of ‘you have too much held in cash' warnings.

I don't think we should underestimate the magnitude of what's being asked of providers.

We are now moving away from a world where non-advised customers were simply given enough information to make their own minds up. In future, there will be a duty of care on providers to ensure that their default fund meets the needs of their typical non-advised customers.

Presumably, they'll also have to recompense them if the fund fails to meet their needs.

However, we should welcome the increased professionalism that this step heralds and recognise that it is taking us away from the sort of tacky marketing that in the past has been aimed at customers seeking some safety in herd behaviour, by taking up ‘our most popular fund' or selecting ‘the funds our staff have been buying'.

Real-time contribution rate guidance

If we are going down this default investment option route to tackle the problem of lack of pensions engagement, perhaps the regulator should extend the thinking into offering the non-advised real-time recommended pension contribution rates given the amount saved so far, investment performance to date, planned retirement age and retirement income expectations.

After all, if you don't tell them how much they ought to be putting in pretty regularly, how are the 80% or so of us that are non-advised going to know if we are on track? This seems an ideal one for delivery via mobile app. You can imagine pension holders getting an alert via their digital channel of choice, all while they are on a train en route to work.

A URL could take them through to their secure portal and a calculator linked to the policyholder's live investment data shows them what they are putting in today and how much more they need to put in to stay on track given retirement income target. Adjusting some of the calculator's parameters gives them a new monthly contribution figure. If they then want to alter the contribution amount, they could do that there and then - an end-to-end digital solution.

If we can harness digital capability to get faster information to savers earlier in the process of building their retirement savings, they have a better chance of being able to adjust their trajectory and arrive at their destination with the retirement they want.

Safe retirement spending rate tracker

The same concept could be applied to tracking your safe retirement spending rate (SRSR) in retirement. Most experts currently advocate spending somewhere between 3.3% and 4% of total retirement income per year. However, a recent FCA review of drawdown levels found that average withdrawals were close to twice that level.

Are defined contribution policyholders overdrawing down on their pensions? Again, it's important to nudge retirees in the right direction. A mobile app and digital alert service could help those in retirement keep tabs on how much they've taken out of their pension in percentage of overall pot terms. If they click through to the engaging calculator, they could explore what a reduction of percentage withdrawal levels means in terms of monthly income reduction and then click through to make that adjustment or ponder next steps if income reduction is not possible right now.

I have no doubt that using a professional adviser to do this for you is best. And I suspect that a ‘one size fits all' default tool will actually serve to heighten the need for advice and drive more people to seek it.

Yet the majority of savers will remain non-advised. So, we must support the increasing demands being put on product providers to use their professional expertise to create and deliver appropriate default solutions for those that want to be in the herd.

Technology can help by collecting and analysing the data around the ‘average' customer at the default's design stage. And technology can also enable delivery because, whether it's a default option, a warning or a call to action, it needs clear and timely delivery and a faultless feedback loop that checks the message's effectiveness.

by Adrian Boulding, Director of Retirement Strategy at Dunstan Thomas.

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