The government is consulting on setting minimum size requirements for defined contribution default funds used by both trust and contract-based multi-employer schemes by 2030, suggesting benefits start to arise from sizes of £25bn to £50bn. The consultation is open until 16 January next year. 

The proposals were revealed on Wednesday, with the consultation published on Thursday, along with an interim response to the Pensions Review, and aim at building funds that have the scale to invest in UK infrastructure and private markets, with government stating this will boost the country’s economy. New figures show GDP growth has stalled at 0.1% in the three months since the start of July, coinciding with the time Labour has been in power.  

The changes could cause considerable upheaval in the DC market, which is why a long lead in time of six years is proposed, although the government could require providers to demonstrate how they will reach the minimum size by 2030. Whether any measures would form part of next year’s pension schemes bill has not yet been decided. 

Chancellor Rachel Reeves, giving her first Mansion House speech on Thursday evening, lamented the fact overseas pension funds buy more infrastructure assets than UK schemes. 

“Australian pension schemes invest around three times more in infrastructure investment compared to Defined Contribution schemes in the UK, and 10 times more in private equity, including in high growth businesses, compared to the UK,” she said, citing their greater size as the reason. 

Responses to the Pensions Review and wider international evidence suggest that the benefits of scale start to be realised at around £25bn, according to the government, “but our analysis also shows that real benefits from an investment capability and economic growth perspective come into effect when funds reach over £50bn”, said Treasury and pensions minister Emma Reynolds. 

The consultation later adds that “international evidence suggests that the benefits of scale may occur from anywhere between £10bn and £100bn AUM, with additional benefits at larger AUM”. 

Currently, there are more than 1,000 DC pension schemes excluding micro schemes, including about 30 master trusts and 30 providers of contract-based workplace schemes, with consolidation happening mainly at the smaller end of the market to date. 

The consultation says that only a small number of group personal pensions and no master trusts have reached £50bn in assets so far, and that GPPs often operate many default arrangements. It is now consulting on the appropriate minimum size and also on setting limits on the number of default arrangements used for auto-enrolment these schemes can operate. For contract-based schemes, it would legislate to override scheme members’ contracts so they can be moved in bulk “with appropriate protections”. This “will likely require an amendment to the Financial Services and Markets Act 2000” and potentially extra powers for the Financial Conduct Authority to monitor and enforce the protections, and could also require changes to regulations for receiving trustees. In addition, changes might be made to the powers of independent governance committees. 

In a less conspicuous but possibly explosive proposal, the government is also considering taking away providers’ ability to set differential pricing, so that all clients would pay the same for the same pension product. 

 

The Association of Consulting Actuaries applauded the government’s ambitions for DC, but its chair Stewart Hastie said “the devil is in the detail of how to actually implement the ambition and over what timescales”.  

 

Large funds did not grow overnight, and “big is not always better”, he remarked, saying it will be important where the government draws the line on minimum size for DC funds and how ‘underperforming’ will be identified and consolidated. 

 

Patrick Heath-Lay, chief executive of the body that runs the £30bn People’s Pension master trust, called the proposals “genuinely radical”. 

They would reshape the workplace pensions landscape, he noted. “The result would be a sharp consolidation of pensions provision creating fewer, much larger providers offering a focused range of default investment funds. That’s likely to build the sort of schemes capable of investing in a wider range of asset classes, something the chancellor is encouraging but has rightly refrained from mandating,” he said. 

He added there was “the core of a strategy to shift competition in the market onto the quality and value of default funds”, arguing that this is what matters to savers, and hinted the industry should avoid being self-serving in its responses. 

Lou Davey, head of policy and external affairs at professional trustee firm Independent Governance Group, said the proposals could deliver greater value for DC savers but highlighted some challenges, such as concentration risk in the market and a lack of competition which could work against improving value. 

  

“We are pleased that the consultation on reforms to DC acknowledges many of these challenges and provides the opportunity for them to be explored in detail, including the role of employers in driving some of the changes,” Davey said, adding that it was “encouraging to see measures” that aim to address the large number of legacy contract-based arrangements.   

  

Paul Waters, who heads up DC markets at consultancy Hymans Robertson, was supportive of the government’s proposals, saying larger schemes provide better value for members, but also raised concerns about value. 

  

“In a world in which there would be a small number of mega DC pension schemes, there is a real risk innovation will suffer, and over the long-term members will lose out,” he said. 

 

Waters agreed this can be mitigated through strong employer oversight and welcomed that the consultation takes this into account: “The proposals to place more responsibility on employers to regularly assess provider value are an essential control for this and should be implemented robustly.” 

 

He called for more time for industry to prepare, however, warning there could be “disorderly” consolidation otherwise, citing capacity challenges.   

Others were more open in their criticism. Mark Searle, head of DC investment at XPS Group said scale is not required to invest in illiquid assets.
 
Instead, "the stimulus needed to drive investment in private markets is a change in mindset from focussing on minimising costs to maximising long term performance," he said.
 
Searle said one reason Australia's DC schemes have large allocations to private markets is "because there is clear evidence that achieving strong risk-adjusted returns will win them new business. There isn’t the same dynamic in the UK currently but the introduction of some type of performance-based league tables would help change the mindset.”

 

What will a minimum size for DC multi-employer defaults by 2030 mean for the market?