Most advisers have not yet woken up to the very negative message hidden away in the new-style pension product illustrations now required by the FCA.
The risk committee of Smith Jones Financial Planners was meeting to discuss the new pensions rules but it was diverted by the Oldest Adviser’s stream of uncharacteristic invective about this latest innovation from the regulator.
He slung down on the committee room table two illustrations – one dated 25 March 2014 and the second one dated four working days later, on 31 March 2014.
They were for the same client, the same top-up pension contribution and the same projected growth rates based on the same portfolio of a mix of equity and fixed-interest funds. The first illustration showed a gross £7,690, growing at a gross 5 per cent a year to £11,900 some 16 years later.
The second illustration was for the same client but had been prepared under the new rules. It showed the same £7,690 growing at the same rate but producing a mere £8,030 after 16 years. If the portfolio had consisted of big-name 75 basis points funds it would probably have illustrated a loss.
The main reason for the lower projection is the FCA’s requirement to deduct an annual 2.5 per cent inflation cost, so that the client would see the “real” rather than the nominal growth rate.
The FCA has also required a small reduction in assumed growth rates but that did not affect this particular illustration because the platform provider in question had already switched to the lower projected growth rates.
The advisers had not noticed the FCA’s announcements a year or so ago. Announcements by the regulator about the details of illustrations tend to get overlooked although it was not a surprise to the compliance officer, who had paid attention to the updates provided by Taxbriefs Advantage.
In a tone of sweet reasonableness, she suggested that the regulator was just forcing clients and their advisers to face up to reality. Inflation really does eat into the real value of investments and it makes sense to try and understand its effect.
The risk committee decided to take a hard look at the numbers that eroded the illustrated 5 per cent growth percentage. The platform charge of 0.35 per cent was the maximum percentage it levied. In practice, the amount might be less because the charges are tiered according to the size of the client’s assets on the platform. There may also be pressure on platforms to rejig their pricing or at least the optics.
But there were two big numbers in the case of this particular portfolio. The average weighted annual management charges were 0.64 per cent plus other expenses of 0.16 per cent, making an annual total of 0.8 per cent. The other big number was the 1 per cent adviser charge that Smith Jones was charging in this case.
Mitigate the impact
And then of course there was the 2.5 per cent inflation rate.
The risk committee looked at what action it could take to mitigate the impact of this new illustration style. There were several suggestions.
One adviser suggested that the committee might be focusing too much on the 5 per cent middle return. But the other members agreed that the 8 per cent projection was none too impressive and the 2 per cent illustration indicating a considerable loss was not encouraging at all.
So could the firm really continue to recommend those funds where the annual management charge, plus other expenses, amounted to 1.1 per cent or more and the average was 80bps? The defenders of the current selection of recommended funds said that some managers were worth these seemingly high charges. Others took the opposite view: future performance was uncertain, but future charges were plain for all to see.
The committee decided to ask the fund selection team to take more account of fund charges in its portfolio recommendations. If it could cut the projected fund charges down to less than 75bps or even 50bps, that would make a big impact on the projections. A number of advisers felt that they would start looking much more seriously at very low-cost trackers to see whether the average charges for fund management could come down to nearer 10bps or 20bps.
The other question was whether a year-in, year-out annual adviser charge of 1 per cent was really sustainable.
Danby Bloch is editorial director of Taxbriefs Financial Publishing
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