After five years of turmoil, the total value of Irish pension funds is back
above €80 billion. The number of defined benefit schemes that are underfunded remains worryingly high, but is falling. So the question is this: can pensions once again give us a competitive return on our investment?
Stripping out the structural problems that were either caused or uncovered by the collapse of the financial markets in 2008, the broad answer, it appears, is yes – although even a gold-plated pension may never again be regarded as a fireproof savings option.
With the benefit of hindsight, the global meltdown is now being seen as a universal “market event”, which undermined all types of financial products, not just pensions. Many alternative long-term savings options – such as the old Irish favourite, property – didn’t fare too well either.
In that context, figures from the Irish Association of Pension Funds (IAPF) show that the total value of Irish funds grew by 11 per cent last year to €80.5 billion, despite the Government levy on savings.
That brought total growth over the past four years to 27 per cent – driven largely by a record-breaking rally in equities, which is nudging the S&P 500 towards a 16-year high.
"The reality is that we're back looking at returns of more than 5 per cent a year over a 10-year period, so a lot of the losses of 2007 and 2008 have already been reversed," says Jerry Moriarty, chief executive of the IAPF.
“The problem is that I’m not sure this message is getting through to many pension fund members. I still hear people saying, ‘We were wiped out.’ Whereas the reality is that even if you did nothing, you’re probably now back above where you started.”
Not surprisingly, given that residual shock, risk-aversion is having its day in both defined benefit funds and defined contribution schemes, with reduced exposure to equities in the former and exposure in the latter remaining at 2011 levels – despite the continuing bull run.
That led Moriarty to comment in the IAPF’s annual investment survey: “The pressure to continue to reduce short- to medium-term exposure to equities in what is generally a long-term investment is questionable – particularly at a time when markets appear to be on an upward trajectory.”
Danny Mansergh, financial consultant at Mercer, says the move away from equities is largely out of the control of the pension funds themselves and is more indicative of a climate of increasing regulation.
Bad press
"Regulation is now effectively forcing schemes out of equities and into bonds, because the new system for measuring solvency is going to penalise schemes quite heavily for holding too high a proportion of equities. So the funds don't have a lot of choice."
What concerns Mansergh is that when pensions get a bad press, often what’s being referred to are specific problems with defined benefit pensions or with individual pensions, whereas defined contribution schemes can frequently be tarred with the same brush.
“People sometimes say to me, ‘I’m in my company’s defined contribution pension scheme. It seems that’s a bad idea?’ Well, it’s not a bad idea. It’s a fantastic way of getting additional money from your employer towards your retirement – and a way for you to get tax relief on your own contributions.”
Mansergh is critical of the Government’s decision to continue the pensions levy, which had been expected to elapse in 2014, and affects all types of pensions.
“That aside, for individuals, it’s hard to think of a more tax-advantageous way of saving than a pension. There’s nothing else that gives tax relief of 41 per cent, if you’re a higher-rate taxpayer, for the initial investment, and then allows you to roll up your interest, your returns and your capital gains – all completely tax free.”
While Frank Downey, head of actuarial at Invesco, acknowledges those advantages and the fact that funds have certainly recovered and annuity rates have stopped falling, what gives him pause is the significant increase in the cost of buying a pension.
Cost
"There's been a long-term shift in recent years, with interest rates falling and people living longer. As a result, the cost of buying a pension today is probably double what people believed it would be 10 or 15 years ago. So while the funds have recovered, the issue now is about what they will buy."
With that caveat in mind, he agrees with Mansergh that pensions remain a highly tax-efficient way to invest for retirement and compare well with the alternatives. “Most of the larger pension funds tend to be competitive on charges and have a wide range of investment options. Whereas if you decide to invest for yourself, you are facing capital gains tax, Dirt tax of 41 per cent from January next, and the exit tax from trusts and insurance company funds is also 41 per cent .
“People thought property was the magic answer, but they were overleveraged and overexposed, whereas property makes perfect sense as part of a diversified portfolio or in a property fund.
"There's also a big range of alternative funds that deal in growth assets such as commodities, energy, even hedge funds. In Ireland, one of the biggest funds is the Standard Life Global Absolute Return Strategies Fund.
“But essentially it depends on what each individual needs. Certainly, it’s a good idea to de-risk into cash and bonds as you get older. In retirement you may feel more comfortable with a lower yield and less volatility.”
Understanding options: Widespread confusion about pensions
The economic crisis has led to a noticeable increase in the number of people approaching retirement age who have decided they need to educate themselves properly about their pensions, according to the Retirement Planning Council.
“It’s certainly true that people are now far less complacent about their pensions and how they work”, says the council’s chairman, Paul King, a consultant with global advisers Accuvest.
“Everyone acknowledges that this is a complex area, but people are realising that they need to take responsibility for their own circumstances, and are for looking more actively at the options available to them.”
A report earlier this year by consultants Ferrier Pearce for the Irish Association of Pensions Funds showed:
- There is widespread confusion about pensions, right across the Irish workforce
- Not enough clear information is provided to combat that confusion and cut through the industry's jargon
- The confusion and lack of understanding apply to both men and women, across all age groups, at all levels in the workforce, including among professionals
The report, entitled Pensions:
A Grey Product for Grey People?
, concluded: “Pensions were viewed as hidden, little discussed, and as a result not generally trusted.”
It goes on: “As one participant noted, it is easy to check out other forms of savings online, but getting pensions information in real-time is more problematic – which makes them seem remote and less like a real savings account.
“In short, most people don’t get the need for a pension – and if they do get it, they don’t understand it.”
