There is increasing industry buzz around decumulation-only Collective Defined Contribution (CDC), a potential new “at-retirement” option for defined contribution (DC) savers. As well as bringing advantages to members from its product features, CDC could provide professional oversight, economies of scale and, as a direct result, a broader potential investment opportunity set which could improve the stability of outcomes. These wider options include productive finance and ESG-oriented assets, both of which are key Government priorities. CDC could plausibly provide £5bn of funding for such assets over the next 10 years, and much more if CDC proves a very popular use of DC pots at retirement.
In accordance with the Government’s growth agenda, there has been a lot of debate recently around how to widen investment opportunities for pension savings.
Jeremy Hunt, Chancellor of the Exchequer, made headlines in April by opining that Britain’s pensions industry is in need of “big reform” to give savers better returns on their pension investments, and that DC schemes will provide the "biggest opportunities to unlock investment into high growth British industries."
Historically, pension schemes have played a key part in private sector investment, with almost £2tn of assets across defined benefit (DB) and DC schemes. However, in recent times, driven by strict funding regulations, most DB schemes have de-risked and now invest extensively in low-risk assets. To date, DC savings are rarely invested in longer term illiquid assets during the accumulation or drawdown phases.1
In recent months, plans for introducing decumulation-only CDC have been gaining traction. This would be a new option for DC savers at retirement, allowing them to buy an income for life which targets income at well above annuity rates - in our previous article: How CDC decumulation-only master trusts could provide a much-needed new option for DC retirees, we noted that decumulation-only CDC could lead to 50% higher expected retirement income than an annuity through being able to invest in a wider range of assets. It would also avoid DC savers from needing to manage a drawdown account to last over their own (unknown!) lifespan.
The Pensions Minister, Laura Trott said at a ConservativeHome conference in May that CDC is "an important innovation in the decumulation market" and she wants to ensure "as many savers as possible can take advantage" of it.
In accordance with this, the DWP announced in June that they intend to place duties on DC trustees to provide decumulation services, including providing at least a pathway to a CDC product. This is big news which could stimulate a new ‘market’ in providing decumulation-only CDC.
Why are CDC schemes better suited to making productive finance investments? Members’ funds in a CDC scheme are pooled together so that members share longevity risks and, under most designs, investment risks. This pooling facilitates wider investment options than drawdown, through a more professional investment approach, a more predictable income stream and not having to provide individuals with a daily-transactable portfolio. This makes them ideal for investment in illiquid assets, providing a new source of productive finance for the UK economy and for ESG-oriented assets.
For a DC saver at retirement, aside from taking tax-free cash there are currently two main options – annuitisation or drawdown. At current rates, around 10% choose annuities and the remainder choose cash or drawdown.2
Once CDC becomes available to all workplace DC savers, there could plausibly be around £5bn of additional investment in UK productive finance over 10 years – tripling that from annuity sales alone - and much more if CDC proves a very popular use of DC pots at retirement.
As the DC market matures and DC savings grow in significance, the impact of decumulation-only CDC on investment in productive finance will become greater still.
We believe there is now a clear direction of travel in the UK DC market – to include new DC decumulation options such as CDC, for the benefit of members and for more productive investing.
