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FSA has lost touch on projection rates

They say you see the glass either half-full or half-empty. I confess that I often fall into the latter category. Sometimes I can’t see the glass at all. When I get my pension statements to see what my fund could be worth when I retire, I only bother to look at one projection rate – the lowest one. It doesn’t always make for pleasant reading but at least I am under no illusion of what retirement could be like if I don’t stay on the ball.

Unfortunately, the same cannot be said for millions of other people. They are under the illusion that they are on course for a bigger pension than they are actually going to get, thanks to generous projection rates laid down by the FSA.

You can see why Steve Webb has mooted the idea of a guaranteed pension. I suspect he knows only too well that in 20 or 30 years time, millions of workers are going to be disappointed when they clock off for the last time.

The projection rates used by the FSA have been out of kilter with reality for some time. The figures show just how big this disconnect can be.

Over the past 10 years, the Legal & General UK index fund has delivered annualised returns of 4.3 per cent. Other funds have performed far worse.

According to Money Management magazine, returns have been nearer 3 per cent over the past 15 years – half of what is typically projected.

What’s more, a sizeable swathe of funds has not achieved even this.

Money Management’s survey showed that the average with-profits pension had delivered a return of just 3.3 per cent a year over this period.

It gets worse. The average balanced managed fund actually delivered negative returns, falling by 1.5 per cent a year over the 15-year period.

The worry is that millions of people still have their retirement funds tied up in these pensions. But annual statements they receive are still using growth rates of 5 per cent, 7 per cent and 9 per cent to estimate what their future pension will be.

As the figures show, this can make a vast difference. If a £30,000 fund grows by 9 per cent a year over 20 years, it would be worth £124,273 (assuming an annual 1.5 per cent charge).

But if the same fund managed to grow by only 3 per cent, it would be worth just £39,971.

Thankfully, it would appear the FSA agrees and admits that there is a chance that consumers could be misled under the current guidelines.

Following a report from PricewaterhouseCoopers, the FSA says that it is likely to cut its projection rates to between 5.25 per cent and 6.5 per cent, although it will only do this after its obligatory consultation with the industry on the issue. Quite why the regulator wants to sit on the issue is anyone’s guess.

With the clock ticking to the RDR, it needs to get a move on. Just think of all those non-adviser salespeople from banks selling third-rate products based on projected returns they could only dream of achieving.

In the meantime, the regulator should take this damning statement from the report, stamp it on every application form and ensure the customer reads it:
“Lower nominal projection rates, combined with the impact of lower real wage growth, at least in the short term, imply that the future benefits for purchasers of retail financial products could be lower than currently estimated using FSA projection rates.”

Paul Farrow is personal finance editor at the Telegraph Media Group


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There are 8 comments at the moment, we would love to hear your opinion too.

  1. “While projections will very rarely be accurate”

    I would like to see an example where projection rates have ever remotely resembled the actual outcome.

    Mike Fenwick should write something on this but I doubt anybody would listen, they never have.

    One thing he said was “how can an IFA be professional when the regulator dictates what can be presented to a client”. That IFA can’t warn the client that the figures are unlikely to be achieved, what is the point Mr Wheatley?

    Why can’t IFAs decide what a client should be told? Or at least warned.

    Those of you who say you wouldn’t like to be sued for false promises should ask why you accept the complete fiction that the regulator prescribes.

  2. Nicholas Pleasure 20th April 2012 at 11:43 am

    If feel the words “on projection rates” were unnecessary in this headline.

  3. I think the author may be slightly out of touch with what providers are projecting. Over a year ago, the FSA asked providers to adjust projected growth rates to resemble the level of risk the client was taking with investments within their pension fund. This has been widely adopted for some time now and the only customers being projected at 5/7/9% are the people invested in higher risk assets.

    Maybe it is time these people sought financial guidance as to their level of risk and were placed in appropriate funds for their risk appetite. The other issue regarding capacity for loss can be identified easily through questioning and can be resolved through the use of guaranteed products etc.

  4. How about an industry wide FSA approved statement on all investment contracts which says” The returns on your money in the future cannot be assessed or guaranteed so independent financial advice is most important, but do not use a bank!”………..Good Eh?

  5. Comparing individual poor fund performances with projections is a fairly cheap way of rubbishing the product. If the sdviser has done his/her job properly, they would have pointed out the appalling year-on-year individual fund performance at client review and, after a suitable ATR discussion, advised switching to something more worthwhile.

    Paul, if you have been stuck in the L&G Index-Linked Fund as your sole pension fund for the last 15 years, then you should shoot your adviser. If, as I would suggest, it is being used in a balanced portfolio, then you will have found that in some years it counteracted the plunging equity funds.

    At the other end of the scale, if all your eggs are in one basket called “The Outer Mongolian Light Railway & Yak Butter Trust”, what do you expect?

    I repeat, word for word, my submission on 19th April 11.07

    I have been in this business for 25 years. I have the benefit of taking out some very historic illustrations and comparing with actual results over 5, 10 and 15 years or more. Guess what? NOT ONE OF THEM COMES ANYWHERE CLOSE TO ACTUAL PERFORMANCE. (In all but 2 cases checked, the results were considerably better than projected.)
    So what use is it to the client? What use is it to the adviser?
    (What use is the FSA department that creates the formulae to be used for effects of costs and charges?)
    I have long opined that most illustrations and projections are totally contrary to TCF, being too long, too technical, too confusing and too obscure for the client (or IFA) to use to make a rational decision.

    Roll on retirement!

  6. I dont know what all the fuss is about or where the FSA get the people who say they rely on the illustration as a guide. I have said for years the only thing they are any good for is a comparison of charges. I always get a Nil commission illustration along with the one I am going to use for each provider so I can see the true cost of the policy and discuss this with the client. I wish they would do away with projection rates altogether as they are not worth diddly squat, mean noth to us and less to clients. Now theres a novel idea. Imagine the FSA coming up with an idea that A) makes sense B) is reasonable and C) is actually meaningful. Dream on ladies and Gents

  7. You would expect finance professionals to know that results will always be worse when measured from a bull market to a bear market. We have been in a secular bear market since 2000. On the other hand, results measured from a bear market into the next bull market will tend to look much better. Definitely a case of closing the stable door after the horse has bolted – the time to be more ‘realistic’ about projections was when it all looked much rosier in 2000.

  8. Intouchwithreality 22nd April 2012 at 9:42 pm

    The only problem with blaming providers projections is, since the FSA letter providers have been required to use the 7% median (and 2% either side) ONLY where the provider thought it reasonable. So….if the projection was felt excessive – why did the advisers not insist the provider used the realistic rate of return they were required to when the client was advised ….?

    The changes being suggested by the FSA introduce a tripartite agreement to whatever rate is used (keeping with the real rate of return requirement) and this means the provider, adviser and client understanding the asset class, charges (hence they need to be transparent, many are not) and likely returns to base the “illustration” on.. surely that’s an improvement on the current system ?

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