In this, the first edition of Pensions News (PN) since the last edition of PN which appeared last month and, therefore, last year, PN will try to resist making new year’s resolutions. PN only has to go to the gymnasium which he frequents (outside normal office hours) to encounter scores of people who have, evidently, made a new year’s resolution which reads as follows; “go to the gym (more)”. The law of averages, reinforced by PN’s experience over the years, indicates that approximately 80% of the people currently swelling the numbers in “his” gymnasium will almost certainly cease to attend between February 2017 and January 2018. Anyone telling PN any different will receive the full force of PN’s scepticism.
One of history’s most famous sceptics was a French essayist named Michel de Montaigne. Montaigne spent a lot of time writing essays which articulated his scepticism on a number of subjects. Of the subjects that Montaigne touched upon however, he never touched upon the subject of the tendency of members of occupational defined benefit (DB) pension schemes to transfer the value of their rights out of such schemes and into a personal pension scheme of their choosing. So far as PN is aware, this is the first article ever devoted to Montaigne’s relationship with the rights of members of occupational DB pension schemes and it is based on PN’s certain knowledge that Montaigne himself was never a member of one. Or; PN’s almost certain knowledge. There is a difference. It is possible that 17th century France may have featured some sort of scheme which provided some sort of benefit to persons who happened to be members by virtue of their status as “employees”. Such schemes may have been administered by trustees who, in turn, were advised by lawyers from firms like this one (this firm does have advisers who would have been in their first youths when Montaigne was alive). The chances of all this having happened (however) are remote as a particular conjunction of circumstances would have been needed. Those circumstances were not there in Montaigne’s time but they are now.
It used to be the case in this country that most employers of any particular size had their own occupational pension schemes and that employees of those employers joined them. Such schemes were administered by trustees and they (I mean the schemes – not the trustees) provided members with benefits on retirement which were calculated with reference to members’ salary at the point they retired. Put differently, it was the pension benefit payable to the member (as opposed to (employer) pension contributions) which was defined; hence the term DB. At the risk of over-generalising a situation which ought not to be generalised at all, a combination of poor (that’s “poor” if you are a person but positively “favourable” if you are a pension scheme) mortality rates, double digit interest rates and investment returns along with a light touch legislative framework meant that most DB pension schemes had surpluses; theoretically at least, they had more money than they needed to pay members their pensions. Not so today. The decline of occupational DB pension schemes can probably be traced back to the 1990s and there are a number of reasons which could be advanced for that decline. Setting out those reasons is probably the subject of a lengthy book; a book which PN does not propose to write. Suffice it to state that the point was reached in the not-so-distant past whereby anyone who was a member of a DB pension scheme was considered fortunate in the extreme.
The standard position for such persons was that they could not give up their rights to a DB pension in return for cash in their hands and they should not agree to transfer the cash equivalent of their rights into, let’s say, a personal pension plan under which the investment risk would transfer to the individual (from the employer). Anyone telling PN that it was a good idea to transfer benefits from a DB scheme into a personal pension plan would have received a sceptical reaction from him; PN would have studied the evidence behind the conclusion but he would have been sceptical as to the wisdom of the conclusion itself. PN thinks that Montaigne the pension scheme member would probably have accepted the proposition that it is better to have the promise of a certain level of income in retirement than a lump sum which is invested and which may or may not provide enough money in retirement. Montaigne may have been sceptical about whether the promised amount payable through the DB would, as a matter of fact, be enough to live on in retirement but PN thinks he would have got the point about the value of certainty.
PN experienced feelings of surprise when he read about a sharp increase in the number of DB scheme members who were transferring the cash equivalent of their rights to personal pension plans. These individuals were, for a price, ready to sacrifice certainty for risk. “Who”, PN mused sceptically “would give up the promise of a generally secure income in retirement in return for the possibility of more with that possibility depending on a number of variables over which the individual can have no control?”. The answer to this question came more quickly than even a sceptical PN had thought.
PN felt that he was witnessing something of a sea change when he read, on Saturday 31 December (2016), that a chief economic commentator from the Financial Times (FT), Mr Martin Wolf, and former pensions minister Baroness Ros Altmann had decided to accept what they described as generous offers to transfer the value of their pension rights from (different) DB pension schemes into other pension plans of their choosing.
Baroness Altmann indicated that the transfer values (plural as she had rights in more than one DB scheme) she had been given were exponentially higher in value terms than those she had been quoted not so very long before. She stated that she was comfortable in “giving up some final salary guaranteed pension income in exchange for what seems to be a very good value offer”. PN was sceptical as to whether this was the right thing to do but accepted that the Baroness knows what she is talking about when it comes to pensions and knew or must have known what she was doing in taking a cash equivalent transfer value from her DB schemes.
PN was more struck by Mr Wolf’s explanation of his decision. Mr Wolf is a highly respected columnist who writes some of the FT’s most cogent articles. Mr Wolf suggested that his sense was that transfer values had become “significantly overvalued” but, in saying that this was why he had accepted it, he acknowledged that his decision to do so might turn out to be the wrong one. In the FT of 31 December / 1 January, Mr Wolf made the following statement: “could that be the wrong decision? Yes. But I would have to live to be close to 100 and the pre-tax real returns on investment would have to be zero – or less - over decades. If the latter were to be true, capitalism would truly be dead”. From his tone and notwithstanding evidence that, after some of the events of 2016, a lot of the old bets about capitalism might be off, PN felt that Mr Wolf does not believe capitalism is about to expire.
Why or how is it that employers are ready to permit transfers to take place on such apparently inflated terms? The main part of the answer is that employers like uncertainty and risk even less than individuals do and, for now at least, a lot of them are prepared to pay a premium to have that risk (the “risk” being the risk of underwriting the cost of paying pensions to members for a very long time) removed from the pension schemes in which they, the employers, underwrite the cost. Scepticism aside, PN felt that he could turn this news into a new year’s prediction. PN once read (in an article written, predictably, by Mr Clive James) that the art of making predictions was to identify something that was already happening and then predict that it would happen or carry on happening. On this basis and on the basis of the report in the FT, it does seem that certain individuals, particularly those as economically astute as Mr Wolf, are ready to take a decision to move out of a DB scheme and it does seem as though such decisions can be based on analysis as clear and rational as Mr Wolf’s. Montaigne the sceptic would probably go on to warn that those less astute than Mr Wolf may decide to transfer their DB benefits anyway and, in so doing, take a significant financial risk. It is certainly the case that Mr Wolf’s analysis applies to his own situation and that anyone in a different situation should not simply apply his thinking. That point notwithstanding, PN feels that one thing is clear; there isn’t going to be a change in the way DB scheme members view their rights in those schemes; there has already been one. This comes as something of a relief to PN as it means that he does not need to go to the trouble of making the sort of new year’s resolution which (a) will sound trite and (b) he won’t keep. PN does not, for instance, need to resolve to clear up the desk he used to sit at and risk finding the mummified remains of his missing colleague and nor does he need publicly to resolve to drink less coffee or eat less cake. Such resolutions are for individuals whom PN does not know and would have difficulty in identifying with. Rather; PN can acknowledge the change in consciousness about DB schemes which has already happened and thus be confident in predicting it.
Until next time………