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Don't let your company pension dim your retirement

You could drastically improve your chances of a bigger pension by taking control of the funds you're invested in. We show you how to get started.
November 1, 2013

Are you one of the 4.2m British workers relying on a stock market-linked company pension scheme to pay for your retirement? If you are, do you know how your money is being invested? If not, then don't assume it's being put to work in a wise way. In fact, if you don't mind taking an extra level of risk to get a bigger pension, or giving up a few hours of your time to make it happen, it's probably safer to assume you could do a better job by investing it yourself: not all is well in the land of pension fund management.

High charges and poor performance across many of the funds automatically selected for you are silently gobbling huge chunks of our hard earned pension pots. British savers currently have £31bn in failing pension funds that have consistently underperformed by at least 10 per cent for at least three years, according to wealth adviser Bestinvest.

More than 90 per cent of savers stick with the default fund selected for them by their employer. But these are one-size-fits-all funds designed to serve millions of people and therefore unlikely to work for you, says Will Aitken, senior pensions consultant at Towers Watson.

He compares sticking with a default fund to buying a suit from a high street retailer. "It might look like a perfect fit, but it probably won't be. That's because it's been mass produced for millions of people. You'd go and get a suit tailored if you wanted a better fit, and similarly, by spending a few hours picking your own funds, you could create a tailor-made pension investment portfolio that could easily grow your pot by a further two thirds in size," he says.

So if you're hungry for a bigger pension and have a few hours to spend making it happen, have your pensions documents and fund lists to hand, and flick through our guide to picking pension funds that are right for you.

 

Ask your employer for free financial advice

The first thing you should do is check whether you could get some free advice from a professional financial adviser. A number of employers offer this service at no cost to help you make good decisions when it comes to your pension. Smaller companies are the most unlikely to provide advice.

Some bosses will pay for a one-on-one session, but most will offer a group session with an adviser. Even if you know quite a bit about investment it's worth taking advantage of this service to get a second opinion on your choices.

 

Is the fund you're already invested in decent?

When you sign up for a company pension scheme your employer automatically selects a fund in which to drip-feed your monthly contributions. This is called the default fund. Default funds are diversified portfolios of investments selected by your employer to broadly suit your and colleagues needs.

Some default funds are much better at meeting your needs than others, but on the whole, they tend to err on the side of caution. Cautious funds are geared towards preserving your money and reducing volatility, rather than focusing on growth. In other words, if you want a bigger pension you're probably better off ditching the default fund and investing in some racier funds.

Unfortunately finding out whether your default fund is right for you isn't straightforward. But Mr Aitken says having a quick nosy around your office is a good first step. Knowing that around 90 per cent of staff will stay in the default fund when they set up the pension scheme, employers choose one to broadly suit the needs of you and your colleagues, taking age and earnings into account.

So, if you're a middle-aged higher-rate taxpayer, and most of your colleagues are too, your default pension fund is more likely to be more suitable for you than if you're a middle aged higher rate taxpayer working in a company full of twenty-somethings on the minimum wage.

Mr Aitken also warns default funds with an insurer name in the title are more likely to be duff as they are less likely to be tailored to you or your company, but rather built to serve millions of people.

A key question to ask your employer or the pension trustees (if the pension scheme has them) is: what's the default fund's objective? For example, is it aiming to track an index? Or is it trying to beat inflation? Once you know the answer to this you'll be in much better position to decide if it's right for you.

 

How to choose funds that are better for you

If you're not convinced the default fund you're shovelling money into every month is good enough at growing your hard-earned pounds and pence, you need to consider selecting some new funds.

Different pension schemes come with various sets of fund options, and some have more than others. Around 20 per cent of stock market pension schemes don't offer any alternatives to the default fund, according to The Pensions Regulator.

If your scheme does offer alternatives, you might find the choice is overwhelming, and the leaflets and documents explaining how to choose funds are long and impenetrable.

However, a good place to start when considering new pension funds is how old you are, because this affects what funds you should choose.

 

Under 30s

If you're a young saver you can afford to take the most risk because you've got decades of saving time left before retirement, in which you can safely ride out the peaks and troughs of the market.

If you switch out of the default fund you should aim to build yourself an equity portfolio consisting of between three and six funds, recommends Patrick Connolly, financial planner at Chase de Vere. Get a good spread of funds covering different major geographical markets such as the UK, US, emerging markets, Europe and global allocation. By doing this you will spread your risk and lower your chances of losing money. It's easy to tell what region a fund invests in as the funds are normally named something like Global Equity Fund or Emerging Market Equity Fund.

The second thing you should do to spread your risk is a bit more complex, especially if you don't know much about investing. As well as choosing funds that invest in different regions you should choose a range of different investing styles. To figure this out you need to look beyond the name of the fund and do a bit of background research.

By typing their names into Google you'll unearth plenty of information about them at the click of a button. Simply, you need a mix of defensive equity funds that'll do well when the markets are dwindling, and aggressive or high growth equity funds designed to do well when markets are rallying. You will find this process the most time consuming, but it will help smooth out your investment risk even further, so it's worth doing.

 

Aged 30 to 50

You're probably at the height of your career and you'll have ramped up your contributions in line with your wages. But if you want to make sure all that money is going to good use, now is a good time to spread your risk even further beyond equities. See the guidance for under 30s above, but also ramp up the number of funds you have to around 10, says Mr Connolly. Keep your equities but add some different assets such as property funds and strategic bond funds so you've got an even better spread of investments.

 

Over 50s

Have you thought about how you're going to turn your pension pot into retirement income yet? If not, you should, because it affects how you should invest your pension fund while you're still working. If you're going to keep the money invested in the stock market and take income drawdown, see the guidance for the younger age categories and stick to it. You can afford to keep a higher level of risk in your portfolio because you're still going to be invested for a long time to come.

Or, if you'd like an annuity which will give you a guaranteed income for the rest of your life, you need to think about reducing the volatility in your pension fund. This is because your investment time horizon is now much shorter than it has been in the past. A big fall in value just before your retirement date will leave you locked into a stingier deal, giving you lower income for the rest of your life.

An easy option to avoid a situation like this is to switch into a lifestyle or lifecycle fund which is designed to keep your money safer from losses in the years before you retire.

 

FUNDS TO AVOID

Lifestyle or lifecycle funds

These are fine for cautious investors who don't want the hassle of thinking about their investments. And once you're close to retirement they also prepare your pension pot for buying an annuity by investing in very low-risk assets, so in these cases are a good option.

But if this isn't the case this process will stifle your returns. Lifestyle funds are therefore unsuitable for investors with a moderate or high-risk appetite. And they're particularly unsuitable if you're young or don't want to buy a guaranteed income (an annuity), and will carry on investing in a drawdown arrangement taking income from your investments instead.

 

Rip-off funds

High charges eat your returns over time and are to be avoided, although it's worth noting you have to pay higher fees to get actively managed funds that beat the index, so don't just go for the cheapest funds you see as they are unlikely to produce the best returns. Passive funds (designed to track an index) should cost no more than 0.5 per cent a year, while actively managed funds (designed to beat an index) should cost no more than 1 per cent a year. You could think about having a mix of both active and passive funds in your portfolio to keep costs at a minimum.

Another way to keep costs down is sticking to the schemes' restricted fund range. These are normally cheaper because they are provided by the insurance company running your pension. But if you find you can't spread your risk widely enough within this range, you should look at the longer list of funds provided and choose from those.