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Illiquid policies in default SIPs

As master trusts will be aware, recent legislative amendments now require trustees of relevant schemes including master trusts, to include certain statements about their policy on investment in illiquid assets in their default statement of investment policy (SIP).  

The default SIP must now include an explanation of the kinds of investments held in illiquid assets, why these assets have been chosen in comparison to other asset classes, the age profile of members with exposure to such investments, and whether investments are held directly or via a collective investment scheme. If no investments in illiquid assets are held, the SIP must explain why not and whether there are any plans of future investment.  

The new requirements are contained in the amendments to regulation 2A (Additional requirements in relation to default arrangements) of the Occupational Pension Schemes (Investment) Regulations 2005.   

While most master trusts have included statements relating to their core or primary default offering, the new requirements apply to all default arrangements, and trustees must ensure that the relevant statements are made about all default arrangements.   

Master trusts must also ensure that:  

• the age profile of those members with illiquid allocations is clearly set out in an accessible manner 
• there is a clear explanation as to whether investments in illiquid assets are held directly or via a collective investment scheme; trustees should look at underlying asset classes in fund vehicles and include any illiquid assets at that level   

We also encourage master trusts to set out the new disclosure statements relating to investment in illiquid assets in a discrete section of the default SIP (rather than spread throughout the document) and with a heading reflecting the contents. This will ensure that the information is readily accessible to readers.   

We hope that master trusts will consider the observations made above when reviewing future updates to their SIP, or as relevant for scheme-specific feedback provided in ongoing supervision.

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Improving understanding of potential member outcomes   

Volatility matters more to some members than others and downside market outcomes can be damaging and disruptive for the retirement plans of some members close to retirement. 

Trustee boards are legally required to review both their default strategy and the performance of their default arrangement at least every three years, but they also need to monitor the performance of the funds in which members’ assets are invested.  

One insight that is often lacking is the impact of the performance (or lack of performance) of some component funds within the investment strategy on potential member outcomes. A further insight that is often lacking is the impact of a market downside on the benefit options members close to retirement are targeting.   

Best practice shows that modelling member outcomes by projecting the expected retirement fund value for ‘typical’ members in different stages of their journey to retirement can help trustees and employers to assess what actual performance means for member outcomes and how changes in market conditions might impact them.   

Stochastic modelling can also help trustees better understand the range of potential outcomes and the level of uncertainty in future member outcomes. It can be particularly relevant to understand the impact of market conditions for those savers close to retirement.

The projected range of member pots at retirement can also be used to provide estimates of the range of annual income that a member might be able to access. This range of incomes can then be compared with the PLSA retirement living standards income levels which provide a useful insight into what retirement might look like for individuals (and couples) at three different income levels (minimum, moderate and comfortable). This can be a helpful tool in engaging with savers and encouraging focus on adequacy of pension savings.

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Good practice: engaging on trustee and other appointments subject to the fit and proper provisions in legislation 

As we evolve our regulatory approach, we are also looking at our engagement on appointments. Once a person is appointed, we will assess their fitness and propriety if their role is subject to the fit and proper provisions in the legislation (an assessable role). However, we would encourage you to engage with us as early as possible in the appointment process. 

When you are starting the appointment process for an assessable role and developing your advert or tendering process, we encourage you to discuss your approach with your supervisor. At this stage, we are interested in your approach to identifying skills and knowledge gaps and how your recruitment process will be targeted to address these. The competencies required of a trustee/strategist board can change over time depending on the specific circumstances of the scheme, such as novel commercial activity or technical challenges faced by the scheme. We expect you to assess how any activities or issues facing the scheme at the time of the appointment affect the competencies needed. This could lead you to change your skills matrices templates or competency assessment documents.  

Engaging with us early may support our assessment by giving us a deeper understanding of how you have sought to maintain collective competency through your appointment process.

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The ORA is an assessment of how well your governance systems are working and how potential risks are being managed. Reviewed every three years, it provides a check-in on how well your scheme’s governance framework is working and provides an opportunity to consider any changes or improvements that should be scheduled for the forthcoming period.  

Findings from the ORA can be incorporated into the scheme’s operations and decision-making processes, to adjust or create new processes, and to highlight any areas of work that the governing body needs to undertake.  

Although there is no legal requirement for a master trust to have an ESOG or ORA, we believe that when implemented proportionately, and integrated with the business of the master trust, they can help to strengthen and streamline decision-making and improve governance.  

It remains the case that some elements of the ESOG do apply to master trusts, so schemes still need to understand the expectations set out in the code. A number of master trusts have already adopted the principles behind ESOG and have developed an ORA.    

The Pensions and Lifetime Savings Association (PLSA) has produced a simple guide to ORAs, if you want to find out more or to develop one for your master trust Own Risk Assessments Made Simple.

Schemes that have engaged with the ESOG and ORA have found that it has highlighted gaps in processes and improved their governance as a result.    

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Poorly performing small schemes hit with more fines as we tackle poor governance   

Small defined contribution (DC) schemes failing to compete with better governed larger ones should consider winding up. 

The message follows the publication of our compliance and enforcement bulletin which shows we issued almost £100,000 in penalties to small DC schemes for governance failures related to the more detailed value for members (dVFM) assessments.  

In 2021, new rules came into force requiring certain schemes to complete the dVFM assessment to enhance transparency, improve governance and reduce the risk of savers receiving poor value. 

However, our research in 2021 showed just 17% of schemes required to complete the assessment had done so, and 64% were unaware of this statutory obligation. 

In response, we launched a large-scale regulatory exercise, running throughout 2023 and 2024, which included probing DC scheme returns to ensure compliance with this clear governance requirement.

Since launching the initiative, we have issued penalties to 19 schemes making the overall total in fines £97,750. 

The bulletin shows we increased our use of powers in relation to dVFM assessments between July and December 2024, compared with the first half of that year. 

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As master trusts you currently hold significant reserves in various assets, including cash. Many of you have reached sustainable break-even and may now show greater financial resilience in adverse scenarios. With several years of operating data, TPR is considering a more nuanced approach to reserving. This could mean allowing a higher proportion of reserves to be covered by revenue offsetting, provided the scheme protects savers, complies with legislation, and supports the master trust and DC market's stability.

In the coming months we will be engaging with the market to support research and develop our recommendations.

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Lessons from abroad  

The Defined Contribution Investment Forum (DCIF) recently hosted a series of podcasts with international policymakers about their DC systems. With a range of interviews with experts from across the globe, the series provided some fascinating insights into the development, evolution, challenges and opportunities of other DC systems. Throughout the series, which also included some specific UK insights from the former pensions minister, Sir Steve Webb, a number of interesting insights emerged:

• New Zealand: Diane Maxwell, former Retirement Commissioner; observed that getting members to think about their pensions is never an easy task but a series of animated, Ken and Barbie videos, on a range of pension and savings topics, launched on their website got more ‘hits’ in the first 12 hours than they had on the site in the previous three years.   
• Australia: Paul Watson, Executive Director of a number of Superfunds, building on the experience and success of IFM Investors – which started as a collaborative venture between a number of Australian pension funds – highlighted the need for “ponying up your money together to create a bigger pool of money to really compete for the world’s best assets” - an expression that is both memorable and insightful (and in line with what a number of Local Government Pension Scheme funds already do).
• Ireland: Jerry Moriarty, former CEO of the Irish Association of Pension Funds said that though years in the making, the Irish AE system is due to launch later this year with a roadmap to 12% contributions set out over a ten-year period. As highlighted in the podcast, there never is a good time to increase contributions: when times are good, the challenge is that it could kill the ‘boom’, and when times are not so good, the challenge is it is taking money from people’s pockets – the key is to set a roadmap.
• Netherlands: Professor Hans van Meerten, EU and Dutch Pensions law specialist said that despite being one of the world’s top pension systems, the Dutch system is currently undergoing significant structural change. Communication (or miscommunication) is a causal factor, with the expectation gap between what members thought the benefit was (DB) and what employers thought the benefit was (DC) being a root cause. The importance of clear communication and ensuring stakeholders fully understand the benefits and risks is key to the successful roll-out of CDC.
• USA: Mark Iwry, often referred to as ‘The godfather of AE’ highlighted the need to be careful about making novel or more complex investments available for individual employee selection. 
• Sweden: Mats Langensjö, former special adviser at the Swedish Ministry of Finance focussed on the importance of taking investment risk in DC and the challenge for some member outcomes where some legacy lifecycle arrangements, with levels of equity risk reduction which were no longer fit for purpose and member retirement expectations. 
• Canada: Keith Ambachtsheer, Director Emeritus of the International Centre for Pension Management (Toronto) highlighted the need to move the focus in DC from being about accumulation to being about lifetime income and explained the Variable Payment Life Annuity retirement solution. This solution pools investment and longevity risk, has been operated for over 30 years by the University of British Columbia Pension Plan, and has recently started to be adopted by some Australian Superannuation Funds.

Unsurprisingly there were common themes and many touch points with the UK pension system. The eagerness to share the mistakes, missteps and learnings along their pension system journeys was really appreciated. 

The global pension landscape is evolving rapidly. While cultural, regulatory and societal differences exist, the theme of very large (future) pools of long-term, patient capital is evolving and as a regulator we will learn from these insights and apply them, where appropriate to the UK context.  

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The discussion paper followed government confirmation in November 2024 that it would proceed with legislation, industry engagement in early 2024 and work undertaken by the FCA, through the Financial Stability Board, to develop international standards for cryptoassets. 

The discussion paper indicates that development of the regulation will be guided by a range of outcomes including strategic outcomes around consumer protection, market integrity, effective competition and international competitiveness and system sustainability/stability and accessibility. 

Additional desired outcomes outlined include: 

• crypto should not be attractive for any criminal activity  
• users should get communications they can understand, products and services that meet their needs and offer fair value   
• innovation should be permitted or encouraged in line with appropriate regulation to enable crypto and its underlying technology to be developed and exploited, while also looking to mitigate any risks 

Investing in cryptoassets carries significant risk. The FCA’s accompanying research note highlights “Investing in crypto remains unregulated and high-risk – if you invest, you should be prepared to lose all your money.”  

However, the development of a regulatory framework over 2025/2026 is likely to lead to increasing levels of retail and institutional interest and investment in some cryptoassets. These two factors, regulation and investment, have the potential to have a material impact on the cryptoasset market and some individual assets in particular. Trustees should review with their advisers and:

• consider their training needs and monitor ongoing market developments  
• review existing (and any new) investment mandates to identify, where if any, allocations to cryptoassets are already being made or where they have the potential to be made (for example, as part of a diversified or alternative investment mandate)  
• develop a policy on cryptoassets, including a ‘response’ for members who enquire and who may want to know if they can access cryptoasset investments through their pension savings     

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Helping employers to choose value over cost

The consultation on reforms to the Defined Contribution pension market launched in November 2024, received more than 100 responses, with around 20 published in the public domain.   

The level of interest and the range of observations and insights provided will have been incredibly helpful to DWP in developing their pensions policy. 

The response from the Chartered Institute of Personnel and Development (CIPD) also has some practical insights on how employers regard pensions. These have implications for the procurement and / or replacement of pension providers, individual member outcomes and for moving the industry dial from the focus on cost to value. 

The opening paragraph of their response says it all: “...pensions can play an important part in an employer’s reward strategy. However, ... some employers regard the pension scheme as simply a cost of doing business and something to be minimised.” It then goes on to outline some concerning findings from its Spring 2023 Labour Outlook survey, including that:

“... just 30% checked every one to three years if it [DC pension scheme] was delivering value for money for employees. Similarly, only 28% also reviewed whether it was delivering value for money for the organisation over this period.”

“...around a third of HR professionals were simply unaware if their workplace had ever reviewed whether the DC plan was delivering value for money, either from its members’ (30%) or its employers’ (33%) perspectives.”

“...around one in 10 respondents (12%) said their firm had not reviewed the workplace DC scheme at all and had no plans to do so.”

Helpfully the CIPD acknowledge the role that human resources (HR) professionals have to play “...in making the case for investing in the pension plan. ... and ... in ensuring that the plan represents value for money, both for the organisation and for its people."

Overall, these findings are in line with anecdotal insights provided by some industry Employee Benefit Consultants (EBCs).  

We have been working to bring in a Value for Money framework, in partnership with DWP and the FCA, that will help ensure that all schemes in the market provide good value to their savers. Initially the framework will cover default arrangements of workplace pensions in accumulation, but the intention is to expand this in a later phase to self-select options, non-workplace pensions and DC pensions in decumulation. We see these as important steps towards ensuring good long-term outcomes for savers. 

Alongside this, we are looking for ways to enhance employers' engagement with pensions and their understanding of the value of employee pension benefits more generally. We recognise that Employee Benefit Consultants have a key role to play in this as well and believe that once the VFM framework is bedded in, it will provide a useful basis for them to build on. We would welcome any practical insights you have on improving employers’ engagement with pensions. 

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These include for example, the impacts on: 

• corporate entities through their direct exposure to physical and transition risks and through the consequent impact on the lending markets of debt impairments  
• insurers through increased claims as the physical impacts of climate change progress and through the consequent impact on the insured, with a reduction in the availability of property insurance feeding through to a reduction in the value of assets. Worryingly, the report highlights that “Around six million people in the UK currently live in flood prone areas, with that figure set to increase steeply by 2050.”  
• financial markets through changes in the default probability of borrower firms leading to potential losses for lenders 
• liquidity and potential deleveraging which could follow sudden swings in financial and commodity market pricing. Worryingly, Bank analysis suggests that some credit markets materially underprice the risks to corporate borrowers’ financial resilience. Examples given for an orderly transition scenario suggest that, for high-yield bonds with a maturity greater than eight years, only around 50% of transition risks expected to crystallise are priced in and for the energy sector estimates suggest that less than 35% of transition risk impact is priced in.  
• operational disruption of the financial system   

While the report highlights that the FPC would continue its work to assess the potential build-up of systemic risks related to climate change, it also highlights that due to the interconnections across the global financial system and the international nature of climate change, there is the potential for risks crystallising in other jurisdictions to spill over to the UK.

Trustees should review with their advisers: 

• the sensitivities of their investments to climate related transition and physical risks  
• the resilience of their investments to changes in credit conditions, including the widening of credit spreads and default probabilities due to re-pricing of climate risk  
• the potential for climate-related systemic risks to generate a series of interconnected failures across their scheme’s investment portfolio   

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Climate change – the international challenge

Dealing with one of the international dimensions of climate change was the subject of the recently published report on “The UK as a Climate Finance Hub”, commissioned by the Foreign, Commonwealth and Development Office (FCDO). 

The central premise of the report is that addressing climate change in Emerging Markets and Developing Economies (EMDEs) requires trillions of dollars of investment over the coming decades. The report indicates that the earlier these investments are made, the greater their effect on the mitigation and adaptation goals of the Paris Agreement, reducing exponentially larger future loss and damage requirements and lowering the chances of broader systemic risks from climate change impacts. As the report says: “Without adequate investment in EMDEs – which currently represent 70% of global emissions and include some of the most climate-vulnerable regions – the global effort falters, posing systemic risks to the stability of returns and asset values globally, including values in UK institutional investors’ portfolios.”  

While the report provides some useful insights, identifies a range of potential risks, opportunities and industry barriers and sets out nine recommendations, trustees may feel that once again, they are being asked to use pension fund assets to solve societal problems and their fiduciary duties are being challenged. Our expectation here is for trustees, in line with their fiduciary duties, to consider material financial risks arising from climate change and nature loss and how they can be mitigated.

Trustees may already hold investments in EMDEs, often as a relatively small proportion of their total assets, on a passive basis and as an incidental allocation as part of a broader mandate. The report suggests investments in EMDEs could offer risks and opportunities which have the potential to have material impacts on other investments held.   

Trustees, particularly as their schemes start to gain greater asset scale, should review:   

• their current allocation to EMDE investments and consider whether there are opportunities to implement those investments on a better informed and more effective basis  
• the potential impacts of climate risk repricing across their scheme arrangements and particularly for some cohorts of members close to retirement or in the decumulation phase
  

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Storm Eowyn

On Thursday 23 January, Storm Eowyn hit the west coast of Ireland, Northern Ireland and Scotland. In Ireland, record-breaking wind gusts of 184km/h and sustained 10-minute average speeds of 142km/h were recorded. The storm left over three quarters of a million electricity customers (around one third of the total) without power and an estimated 200m euro of damage in its wake. 

Although Storm Eowyn has not been directly linked to climate change, extreme weather events are predicted to become more normal as the climate changes, and questions have been asked about how prepared we are for them as a society.

More generally concerns about physical risks have been rising, as highlighted by the Bank of England in its November 2024 Financial Stability Report: 

• The financial and economic losses related to physical risks are already rising and are projected to continue to increase in the coming decades. 
• Analysis by the Swiss Re Institute indicates that annual insured losses for natural catastrophes have been growing by 5%–7% on average for the last three decades, and this trend is anticipated to continue over the long term.
• The global macroeconomic effects of the physical impacts of climate change are expected to rise as severe weather events intensify and become more frequent.     

Some trustees have already started to focus more on physical risks in their most recent TCFD reports, which is a positive, and we would encourage all schemes to consider the resilience of assets as part of the investment business case. 

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Developments in the voluntary carbon and nature markets 

Challenges over market integrity and their potential to be used as an excuse for inaction means that some have viewed voluntary carbon markets with scepticism. However, mechanisms such as this do present investment options as part of a balanced portfolio in line with climate obligations.

Voluntary carbon and nature markets (VCNM), if properly developed and regulated, have the potential to offer both a practical and credible solution for companies that need to mitigate emissions (particularly those in the hard to abate sectors, where the technology to reduce emissions is still developing) and catalytic finance to direct funds to projects that actively seek to reduce, avoid or remove carbon and mitigate harm.  

Globally, investment in low carbon sectors will have to quadruple from 2023 levels to over $7bn each year by the early 2030s to reach net zero by 2050. At the same time, in the UK, capital investment levels will probably need to double to over £130bn each year. The government wants to increase the levels of finance being mobilised to help deliver climate and nature goals and believes high integrity VCNMs can unlock investment and achieve material scale by the end of this decade.  

In November 2024, as part of the Mansion House package of measures, the government announced plans to issue a public consultation in 2025 on the steps the government could take to raise the integrity and use of VCNMs. In supporting policy papers, the government outlined six voluntary principles which it believed would help organisations engaged in discretionary action towards net zero and nature positive transitions. These principles would help to ensure that market credits deliver their intended environmental outcomes, buyers do not use credits instead of taking the internal action needed and any claims about the use of credits are accurate and not misleading. 

As high integrity VCNM markets develop, trustees should seek to:

• monitor developments in the market 
• understand the additional investment opportunities which will arise, in the UK and globally 
• understand how their investment managers are using offsets and/or evolving their approach in their funds and their investment engagements in response to market developments

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We were pleased to be joined by industry experts and members of the Pension Scams Action Group (PSAG), a multi-agency team led by TPR, uniting law enforcement, government and the pensions industry. The webinar gave us the opportunity discuss how we can work together to strengthen our defences against fraud.  

We heard from Chris Bell from the City of London Police who highlighted why it’s so vital that you report your suspicions to help combat scams effectively, and told us about the replacement of Action Fraud and countdown to the new service.  

Your engagement and questions gave us valuable insight into the challenges facing the industry today. Understanding these issues is essential as we continue to find practical solutions that protect both providers and savers.    

Missed the webinar? No problem, you can watch the full recording:   

Find out more about PSAG in our blog 

You can also find out more about PSAG in our blog, which shows the bold steps the partners are taking to fight pension scams. The blog includes how PSAG has forged strategic partnerships and embedded intelligence experts within critical agencies, including the City of London Police and the National Economic Crime Centre. This partnership will deepen our understanding of the scam threat landscape and work to prevent and disrupt pension scams.     

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After requests for an updated version, we’ve refreshed the ScamSmart leaflet with a PSAG Steps to Stay Scam Safe Checklist, dated January 2025. 

The checklist includes signposting to new resources that savers should use to protect themselves from being scammed. The main updates are:  

• updated telephone number for the Money and Pensions Service (MaPS) 
• guidance about clone websites reflecting the increase in people being targeted online 
• key messaging and a link to the Government's national fraud campaign Stop! Think Fraud, which is a useful anti-scam resource for your members 

You should send members the PSAG Checklist with their annual pension statement and to any member who requests a pension transfer. This can be a weblink rather than a hard copy. You can find more information here.

If you have printed the ScamSmart leaflet, it is fine to continue using any existing version until you use up your remaining stock. Please replace it with the updated PSAG Checklist when you next print materials. 

Download the PSAG Checklist and share it with your members now:   

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