Volatility in the bond market could hit employees saving into a workplace scheme invested in lifestyle funds, which automatically shift them into increasingly risky bonds in the run-up to retirement.
Lifestyle funds are a default option for many workplace schemes due to their promise of lowering risk over time using bonds, and have typically been used to build up capital in the run-up to buying an annuity. But Candid Financial Advice says the potential of a bubble in corporate bonds could threaten the risk profile of those funds and expose employees to unintended risk.
Ian Millward, director at Candid Financial Advice, said: "There is growing concern that current gilt and corporate bond prices are unsustainable. We have recently advised our clients to trim back bond exposure in their portfolios. If bond markets do take a tumble then those approaching retirement who are invested in lifestyle funds may get a nasty shock.
"The danger of things being done on autopilot is that these investors have automatically been moved into bonds and many probably don't even realise."
He adds: "I would urge employees who are within 10 years of retirement to check how their pension is invested. If they hold a lifestyle fund or have significant exposure to bonds they should seriously consider whether this is appropriate in the current climate. And if they are likely to shun buying an annuity at retirement, preferring to instead draw an income under the new rules, then lifestyle funds are arguably the wrong choice in any case."
Many lifestyle funds - formerly geared up to prepare for annuity purchase - have already been changed to fit in with new pension freedoms and have reduced exposure to long-dated bonds, anticipating an increase in savers who shun annuities and remain invested. Standard Life recently updated its default lifestyle fund for workplace schemes. It no longer moves employees into an annuity purchase fund within five years of retirement and says bond risk has been reduced.
Jenny Holt, head of investment at Standard Life, said of the new fund profile: "Members maintain some exposure to growth assets until the end point of the glide path (the life of the fund), and now the bond exposure they maintain looks very different as it no longer has a focus on long-dated bonds.
"We took bond volatility into account, but the primary driver for design was how we expected customers to behave, which led us to change the asset mix."
But many employees will still be invested in older funds via their workplace scheme. Those include Standard Life customers. Almost 400,000 have been moved to the new profile but many remain invested in the older lifestyle range, which will imminently be moving customers into annuity funds. The range is now under review by the company.
With bonds reaching unprecedented levels of volatility this year and annuity rates plummeting to their lowest ever levels in April 2015, many savers might want to move out of older lifestyle funds. Standard Life is contacting all defined-contribution scheme members within a year of retirement who are due to be automatically moved to an annuity fund.
Employees in other schemes should take care to read the small print on their pension plan and work out whether they want to remain in a lifestyle fund or switch out.
