Guide to Pension Investment – Forbes Advisor UK

The aim of investing in a pension scheme is to build up a sum of money that can be turned into an income in retirement. 

According to MoneyHelper, the government-backed financial guidance website, a pension scheme member will need to make investment choices depending on:

• the type of pension in which he or she is invested
• whether an individual has joined an employer’s pension or set up a scheme privately.

Alistair McQueen, head of savings and retirement at Aviva, says: “The great thing about your pension investments is that nothing need be set in stone. Most modern pensions allow you to change your investment choices, when you want, and for no charge. This flexibility should help ease any anxiety you may be feeling about where to begin.”

Defined benefit pensions

Individuals who are members of ‘defined benefit’, ‘final salary’ or ‘career average’ pension schemes tend not to be responsible for the investment decisions that affect their arrangements. That’s because these schemes are run by professional investment management teams.

That said, members of these sorts of schemes may, at some point, still need to make choices about their plan. But these are more likely to centre around whether they want to boost their pension savings by making extra payments known as ‘additional voluntary contributions’.

Defined contribution pensions

In contrast, members defined contribution pensions, which can include both workplace and DIY pension arrangements, build up a pot that generates a retirement income based on how much the individual and/or the individual’s employer have contributed and by how much these contributions have grown.

It’s possible that anyone who is a member of such an arrangement will be required, at some stage, to make an active decision about how their contributions are invested.

Contributions are usually channelled into investment funds. Depending on the type of fund, the money could be invested in assets such as shares, bonds, property or cash.

Workplace pensions

Having joined a workplace pension, an employee’s contributions are usually invested automatically by the plan’s administrator, typically an insurance company.

In this scenario, money is invested in a vehicle known as the ‘default’ fund, which will have been chosen by the scheme to meet the investment needs of its members.  

Assuming an individual is happy with this fund choice, often also referred to as a ‘lifestyle’ or ‘target date’ fund, then he or she need not do anything more than carry on contributing.

However, Tom Evans, managing director, retirement, at Canada Life, says: “Don’t simply accept the pension scheme default option as the right investment choice for you. Make a conscious decision about where to invest, based on your attitude to risk and how long till you plan to retire.

“Remember you are investing for the long-term, perhaps 20 years or more, so the ups and downs of stock markets will be smoothed, and history shows time and time again you’ll likely receive better returns than simply saving into cash.”

Dean Butler, managing director for retail direct at Standard Life, says: “Most people who start saving into a pension are auto-enrolled into their workplace pension’s default investment option, and this can be a good choice for some, but not everyone. There are a few things both to consider and bear in mind when deciding how to invest.

“The first thing to think about is how much involvement you’d like with your investments. If you aren’t an investment expert, or you’re too busy to manage your investments yourself, a ‘ready-made’ could be right for you. These options are designed for ease and start by investing in the type of funds that aim to increase the value of your pension pot over the long term.

“Then, as you get closer to retirement, they gradually and automatically move your money into carefully chosen funds designed to reflect how you plan to take it, all without you needing to do anything.”

Investment choices

Most workplace pensions provide their members with more than one option in terms of investment fund. It’s worth individuals bearing in mind the choices available in case they are a better match for their circumstances.

For example, some funds offer the prospect for higher growth, but could also expose investors to greater investment risks. This would mean a pension pot potentially rising and falling in value more often over time accompanied by steeper peaks and troughs in performance.

Assuming the pension was being held for the long-term (at least 10 years) it could pay a pension scheme member to endure extra volatility in performance assuming the returns achieved at the end of the plan’s life compensated for a bumpier ride.

Aviva’s Alistair McQueen says: “Each fund option should be backed by a fund factsheet. This will present information about the financial objectives of each fund, and the underlying investments into which the fund is invested.

“The factsheet will give an indication of the risk associated with each fund. A higher risk fund has the potential to drive higher returns over the longer-term, but this will likely come with the probability of greater volatility. A lower risk fund should carry less volatility, but with this may come lower longer-term returns.”

Fund choice may also extend to investments with a more ethical or socially responsible bias, and some arrangements also offer Sharia-compliant funds that invest in accordance with Islamic law.

Investors who decide to stick with a default fund usually have the chance to change their mind later.

Self-invested personal pensions

Investment decisions become even more significant for those who go down the DIY route because upfront choices need to be made to get the plan off the ground.

Self-invested personal pension providers and online investment platforms usually offer a range of investments and may offer their customers some help when it comes to fund selection. This can vary, however, from one provider to another.

For example, some providers may offer a smaller selection of funds and some straightforward investing options such as ‘low’, ‘medium’, or ‘high’ risk suggestions. Other providers might offer a larger range of funds along with extra risk-based tools to help more confident investors narrow down their selections.

According to MoneyHelper, pension providers must supply certain information to help would-be investors make their decisions, including:

• how the fund is invested
• what returns a fund has achieved
• what are the fund charges
• what risks are involved.

Standard Life’s Dean Butler says: “Understanding investment risk is really important when choosing your investments. You should think carefully about how much risk you’re comfortable with and that you’re able to take with your money.”

“For most people, it’s a good idea to spread your money across a mix of investment types, such as equities and bonds, and across different countries. This is known as diversification and it means that if things go badly in one particular country or investment type, not all of your money will be affected.”

Key considerations

• how long the pension will be invested
• inflation
• risk
• the need to diversify between different types of investment
• fees and charges
• monitoring and reviewing investments.

Aviva’s Alistair McQueen says: “It is wise to keep your pension investment options under review. This need not be on a daily basis, but maybe once a year. As you approach retirement, you may want to consider moving your investments towards lower risk options. This is to minimise the impact of any big swings in the value of your investments, just as you are about to access your money.

“If you are unsure where to begin, don’t be afraid to ask for help. Your pension provider should offer a range of information. And if you want personalised help, you may want to consider paying for a professional financial adviser.

Scottish Widows’ Robert Cochran says: “Because people are automatically enrolled into pension schemes when they start a new job, it’s worth checking if there are any pension pots from your past employment that you may have forgotten about. With more than £26 billion currently sitting unclaimed in pots held with people’s previous employers, consolidating your workplace pensions could uncover savings you didn’t know you had, as well as making it easier to manage this money.

“Most of the largest pension providers now have a mobile app that you can use to keep track of your pension’s performance. Some of the better apps even allow you to make changes such as consolidating those workplace pension pots and to forecast your retirement income depending on when you access the money.”

According to a recent survey by Hargreaves Lansdown, the investment trading platform, about one in three (30%) respondents said they wished they had paid closer attention to their pension requirements.

Hal Cook, senior investment analyst at the firm, says: “Making sure you have enough income in retirement is one of the biggest challenges facing investors. One in 10 retirees say they regret not looking more closely at their investments while saving, with a further 22% wishing that they had got to grips with pension saving earlier.

“This, coupled with the fact that 55% of respondents don’t know how their pension investments are performing, highlights the lack of interest that people seem to have for their retirement financial planning.

“Cash may be a good idea for your rainy-day savings, but for retirement you need to be invested. The power of compound interest and time in the market means the earlier you start, the easier it is to grow a sizeable pension pot.

Hargreaves Lansdown says where an individual decides to invest depends on where that person is in their retirement journey suggesting that, as you near pension age, you should prioritise capital preservation and look to income-generating assets.

Investing for the long-term

Pensions are long-term investments. It’s not usually possible for scheme members to access the money in their pension pot until the age of 55 at the earliest, even though they might not need the money until much later once they’ve finally stopped working.

This means the money can be invested differently from ‘rainy day’ cash that might be required for access in the shorter-term, such as paying an unexpected hefty bill.

Scottish Widows’ Robert Cochran says: “It’s never too late to start saving, but it pays to take action sooner rather than later. A pound saved in your 20s could have four times the value of a pound saved in your 50s by the time you retire, so simply choosing to start now could be the best investment decision you make.”

Aviva’s Alistair McQueen says: “After your property, your pension may be your greatest financial asset. Just as you take time to look after your home, it is wise to take time to look after your pension. With some routine care, you will be better placed to secure the retirement that you want.”

Claire Trott, divisional director at St. James’s Place, says: “Always make sure you know where your pensions are, and that they know where you are.

“Pensions are something that need to be nurtured and not just paid into and forgotten about. This could be as simple as making sure you open any paperwork sent to you or reviewing what you can afford to pay in. Most important is keeping track of any pensions when you move jobs or home as they need to know where to find you when the time comes.

“There is a lot of information usually available to help and guide you both from your scheme and Government support such as MoneyHelper, some employers will even pay for some advice for you personally. If you don’t ask, you won’t know.”