Issue: September/November 09


Uphill struggle for member engagement

Success in getting it is key to the success of DC funds. So too is good governance requiring strong leadership.

The problem is universal. As the world moves increasingly to defined-contribution (DC) retirement funds, largely because employers are loathe to carry the liability for defined benefits, asset managers and trustees have a devil of a job in trying to engage with fund members who carry the DC investment risks.

“The entire retirement savings system needs to be designed to work for financially illiterate participants,” as pension experts Don Ezra, Bob Collie and Matthew Smith succinctly put it in The Retirement Plan Solution that they recently authored.

The point is underscored by a survey of UK pension funds that Watson Wyatt, an international consultancy, has undertaken. It found that fund trustees see member understanding as the biggest single area of risk facing their schemes (chart 1). This is consistent with the areas where most value can be added and where respondents would like to focus more attention.

“The key constraints that DC pension plans face are a lack of suitable resource – be that time, budget or suitable expertise – to accomplish objectives that the fiduciary body would ideally like to achieve,” says Watson Wyatt. “Participants in our research were clear that, given the tight controls on employer budgets and a desire not to make occupational pensions overly costly relative to alternatives, this meant in reality being more effective and efficient within the current level of resources.”

But how so they? With difficulty, apparently, except to persist in trying. One area is to add value by better governance (chart 2). In addition to managing risks, some 80% felt that the member outcome (income in retirement) can improved by good governance in that it:

  • Helps to ensure that potentially costly mistakes and errors don’t occur, suggesting that “prevention is better than cure”. For example, the costs of a mistake in a benefit statement (in terms of trust, reputation, human-resources issues as well as the hard costs of having to reissue the statement) are sufficiently large that real attention to detail is required;
  • Allows more efficient use of limited governance resource and budgets. The benefit of good documentation (e.g. more formalised structures, delegated authority) allows fiduciary time and budgets to be used more effectively.

The research also found that funds with strong governance bodies all exhibited strong leadership. Most important is the role of the chairman, typically supplemented by a strong executive team.

It further highlighted that an independent person on the fiduciary body can be increasingly important: “It allows the independent person to ask difficult questions and challenge the prevailing views of the other fiduciaries as well as the employer. In addition, the knowledge that an independent person often brought of what other pension plans were doing, and the expertise they had, were viewed as positive.”

More generally, the body of trustees had to develop an “appropriate mix” of skills and expertise consistent with its governance objectives. While trustees wanted to promote higher levels of member engagement through communication, education and guidance, they were “wary to go too far in these areas at the current time”. Frequent regulatory and legislative changes “are impeding a more strategic focus as fiduciary bodies react to these changes.”

It sounds all too familiar.

What areas of governance add value?

Key risk areas a DC plan faces