| year (end) | insured schemes | personal pensions | occupational pensions | % occupational pensions | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 1997 | 122 | 267 | 775 | 66.6 | ||||||||||||||
| 1998 | 161 | 316 | 802 | 62.7 | ||||||||||||||
| 1999 | 196 | 367 | 911 | 61.8 | ||||||||||||||
| 2000 | 233 | 387 | 847 | 57.8 | ||||||||||||||
| 2001 | 220 | 373 | 770 | 56.4 | ||||||||||||||
| 2002 | 206 | 349 | 640 | 53.6 | ||||||||||||||
| 2003 | 250 | 372 | 709 | 53.2 | ||||||||||||||
| Source: Table 24 of the PPI Pension Facts (2005). x |
In Table 3
"insured schemes" are: "insurance company-administered
occupational pensions",
"personal pensions" are: "insurance-company-administered personal pensions",
"occupational pensions" are: "self-administered
occupational pensions".
Government pensions policy has arguably had an excessively market orientation. Stakeholder pensions are market schemes. Personal choice seems in the first instance to refer to choosing products in a market. Personal responsibility generally refers to responsibility for saving which again means choosing products. "Building trust in the market" is a heading in Chapter Five of the Green Paper on pensions Simplicity, security and choice (2002). x "Maintaining confidence in the financial system" is a statutory objective of the FSA. I agree with a contributor to a discussion about the Financial Services and Markets Act (2000):
"IMHO the legislation is designed so that the prime objective being protecting the market - market confidence - overrides that of consumer protection." x
Occupational pension schemes do not form a market, since membership is restricted. But they have declined in relative importance as can be seen from Tables 2 and 3 below. Figure 5 (page 10) of the White Paper shows that membership has declined.
Markets are confusing. Companies and funds sometimes change name. The paperwork contains various numbers such as: "account number", "plan number", "contract number", "reference number", "your reference number", "client reference number", "your client reference number", "your TESSA number", "ISA account number", "PEP plan number", "customer reference number". These numbers sometimes change because of the introduction of a new computer system. Such changes cause confusion.
"I am someone confused by all the paperwork, especially from Alba and the seeming miriad of choices available to me." x
"Rebecca Harrison considers herself a financial savvy young woman. But even she admits to being confused when it comes to deciding what to do with her daughter's £250 Child Trust Fund voucher. .. Having a part-time job as well as being a full-time parent, has left her with little time to research her options." x "Parents can be forgiven for being confused by CTFs because of the wide range of funds available." x
The Sandler Review discusses consumer confusion:
"A number of features of the UK retail financial services industry have served to compound consumer confusion:
opaque and inconsistent terminology; lack of clarity and consistency in reporting product charges; profileration of products; and product differentiation that does not reflect true differences in what is being offered." (3.13)
Markets are also expensive. The Treasury Committee says in its report The design of the National Pension Savings Scheme and the role of financial services regulation (2006) that stakeholder pensions are too expensive for both providers and investors:
"Stakeholder pensions are seen as uneconomic to both providers and potential customers among the original target market of middle income earners." x
The White Paper says that stakeholder pensions have "relatively high charges" (1.42). The Government did not refer to "high charges" when they were introduced in 2001. The Minister for Pensions Reform, James Purnell, said:
"But high profile scandals have created the impression that saving generally is not safe from pensions mis-selling to Equitable Life. These cases are very much the minority." x
Thus in addition to being expensive with high charges, saving towards a pension may be unsafe. He asks: "How do we encourage people to save now, before the introduction of personal accounts?" People should arguably not be encouraged to save towards a pension while it is both expensive and unsafe. The First Report of the Pensions Commission says:
"There is little evidence of a net increase in ongoing pension contributions flowing into personal pensions and GPPs as the result of the introduction of stakeholder pensions." (page 92)
Thus they have flopped. My website www.comparativetables.com started with the introduction of stakeholder pensions. x Stakeholder pensions are described in the White Paper as "simple, flexible and low-cost" (1.14) and "flexible and portable" (1.15). They were widely welcomed. In its Review of Medium & Long-Term Savings (2001) the Consumers' Association says:
"The introduction of stakeholder pensions - with strict control on access and charges - not only offers consumers an excellent deal but have forced down charges on older style personal pensions." (page 4) x
Stakeholder pensions did not solve the fundamental problem of personal pensions, which is that they form a market. The NPSS proposals are a change in direction in Government policy away from reliance on the market. NPSS will have a "simple, low-cost collection system". How much of a difference will this make in comparison to stakeholder pensions? That is, what percentage of the cost of stakeholder pensions is caused by the cost of collection?
The promise in the White Paper to abolish contracting out for defined contribution schemes (page 19) is another step away from markets, which are associated for example with caveat emptor, complexity, mis-selling, closed funds, lost investments.
2.5 "Looking to the future"
The reform package in the White Paper (page 15) is "looking to the future". The five tests for reform are: promote personal responsibility, be fair, be simple, be affordable, be sustainable. Personal responsibility has not been encouraged by events in the past, as pointed out on one website:
"When they do try to act responsibly and put money aside, a sufficient number of them have been badly burned by the financial services industry to spread doubt and anxiety." x
There are currently Parliamentary Ombudsman and European Parliament enquiries into Equitable Life. Of the evidence submitted to the latter Seven Veils of Deception from the Investors' Association is particularly interesting. x The seven veils are:
"a) Asset Shortage Deception
b) Ponzi-style Early Joiner Deception
c) Imaginary Pension Pot Deception
d) Investment Shortfall Deception
e) Unwarrented Risks Deception
f) Unsafe Annuity Deception
g) Ponzi Deception of the non-GARs"
There was a Parliamentary Ombudsman enquiry into pensions. The White Paper discusses the Financial Assistance Scheme. The Public Administration Select Committee in its report The Ombudsman in Question (2006) finds this "inadequate" (page 22). An article in the Guardian Pensions advice 'failed thousands' (30th July 2006) reported:
"Many former occupational pensioners are suffering severe hardship despite doing what they thought was the responsible thing in providing for their retirement." x
Responsibility is one of those qualities which people like to see in other people. The protection of consumers is described as an "objective" of the FSA in the Financial Services and Markets Act (2000) rather than a responsibility or duty. People like to be given rights rather than responsibilities, as they have been under the Human Rights Act (1998).
Promoting personal responsibility can sound condescending. For example the Cabinet Office paper Personal Responsibility and Changing Behaviour. (2004) x says: "The exercise of personal responsibility strengthens individual character and moral capacity.". It concludes: "It should also enable citizens to feel in more control of their lives." But is the Government in control? It is not even trying to be in control of the financial industry, since it has handed the job to the FSA. When the FSA was set up the Government said it was ending the self-regulation of the industry, which is clearly wrong since it is financed by the industry.
Promoting personal responsibility may not have been successful in the past. The ability to contracting out and back in to SERPS/S2P produced general chaos, with many people not even knowing whether they are contracted in or out.
Pensions only have to be simple if people need to understand them, and they need to do so if they have to make choices.
The NPSS scheme is part of this looking to the future. The Government and industry are continually introducing new "products" and "schemes" saying: "The old ones had high charges, were inflexible and complicated etc. Lessons have been learnt. These new ones are low-cost, simplified, portable etc." It seems likely that NPSS will be a new kind of personal pension as discussed above.
2.6 Good news and bad news
A problem with tax relief and tax concessions is that they tend to be mentioned without at the same time mentioning tax disadvantages. Tax advantages tend to be exaggerated for example:
"The tax advantages of pensions are extremely favourable. You can obtain tax relief on the contribution you make, the investment fund grows virtually free of tax and when you come to retirement you receive 25% of the fund as a tax free cash lump sum." x
But the income from pension annuities is subject to income tax. Because income tax for pension annuities is repaid except for the 25% lump sum, they have minimal tax advantages. But the cost is increased considerably at the expense of taxpayers and for the benefit of the industry, because the tax relief increases the capital on which there is the annual management charge.
Tax relief on contributions results in all sorts of complicated regulations when people retire and the Inland Revenue seeks to reclaim the tax. x A more complicated example than annuities is the taxation of insurance bonds:
"There are plenty of advisors around of all stripes who like nothing more than to flog a retiree an investment bond paying commission of 7%. The charges on such bonds eat up 50% of the returns and the allegedly tax-free income comes from the investors' capital, with predictable results if the markets underperform.To add insult to injury, the returns on the investments inside the bond are taxed, which for many people would not be the case if they were held directly." x
If someone such as a life assurance company says that there is a tax advantage such as tax relief, they should simultaneously say what are the tax disadvantages. But this does not happen simultaneously if ever, so people learn about tax advantages and buy "products" based on incomplete information. People learn about the good news but not about the bad news until later - often much later. This is a general problem with markets - incomplete information.
To be encouraged saving has to be worthwhile. It can be encouraged by especially low tax for accumulating saving, and by not have saving which is locked away, but can be accessed at any time. But I am not in favour of tax relief on contributions, that is being able to save before tax and the accumulated saving then being subject to income tax. Tax relief for pensions seems to me to be deceptive to some extent because people may not realise that it is in effect, subsequently taken away.
Requiring pension savings to be locked away until retirement, implies that the Government does not trust people to spend their pension funds on providing for their retirement. What evidence is there that people cannot be trusted? They are more likely to save in the first place if they can access their funds. This is the reason why ISAs have been popular in comparision to stakeholder pensions. I agree with a contributor to a discussion:
"I personally don't think most people would fritter away money they had spent decades saving in full knowledge that they could withdraw at will. But HMG thinks that they would, hence lockaway - this was my point. The whole idea of lockaway is absurd and it needs to change." x
There is a difference between personal and stakeholder pensions and occupational pensions because the latter have employer contributions - or at least much more frequently. People should be able to access their own funds at any time, but not necessarily those of the employer. In the case of defined benefit pension schemes there would have to be an agreed definition of "own funds".
Good news - bad news situations permiate this subject. The good news: Stakeholder pensions are "low cost". The bad news: They have "relatively high charges". The good news: "regulated by the FSA". The bad news: The FSA is financed by the industry which it regulates. It does not fall within the jurisdiction of the Parliamentary Ombudsman. It appoints its own Complaints Commissioner, and so on.
2.7 Annuities
Annuities (provided by insurance companies) are a high margin product - judging from my own calculations. NPSS should provide its own annuities and drawdown plans.
A useful way of studying annuities seems to be to look at the yield - by analogy with the yield from bonds. This is the rate of interest at which it is necessary to discount the future benefits to obtain the original premium. x I looked at Scottish Equitable annuities because of a discussion. They were chosen because they provide the best rate for a man aged 50 on the FSA's Comparative Tables:
"The FSA tables (for 'You chose single life pension annuities with no guarantee for a man aged 50 with a pension fund of £100,000. You are a non smoker.') give £451 a month from Scottish Equitable for a level annuity." x
This Scottish Equitable annuity is extended to further ages in Table 3.
Table 3
The yield from annuities x
| age | SE annuities (£ per month for £ 100,000) |
yield (% per annum) |
|---|---|---|
| 50 | 451 | 3.60 |
| 55 | 483 | 3.56 |
| 60 | 529 | 3.32 |
| 65 | 593 | 2.92 |
| 70 | 657 | 1.87 |
2.8 Population ageing
The White Paper is much concerned with "the challenge of demographic change". A recent article in the Financial Times by Michael Lind of the New America Foundation, A labour shortage can be a blessing, says:
"Productivity growth can solve much or all of the pension funding problem. In the US, for example, the ratio of workers to retirees will go from 3 to 1 today to 2 to 1 in 2080. This is quite minor, compared to the shift from an 18 to 1 ratio in 1950 to the 3 to 1 ratio of today - a shift made smooth and painless by productivity growth in the past half century." x
This article says that the industrial revolution started as the result of labour shortages:
"It is no accident that the industrial revolution began in countries where workers were relatively few and had legal rights, rather than in serf societies where people were cheaper than machines."
It says that solving labour shortages by immigration of cheap labour from abroad is putting the clock back. Not content with expanding immigration the Government is proposing to further increase the working age population by increasing the State Pension retirement age. The White Paper says:
"All the countries affected by ageing have realised that there are essentially only four different choices before them - people work more, they save more or else taxes increase or benefits decrease. (page 189)
Two further alternatives for the UK, are to increase productivity and to have a more efficient pensions industry with lower charges.
A trivial example of scope for an improvement in productivity is my electricity, gas and water meters - which are read by three different people. It would surely be more efficient if one person read all three meters?
In my opinion "the challenge of demographic change" is not so serious as claimed in the White Paper. The rate of increase of longevity is slowing down. The White Paper says:
"In 1950 a man aged 65 could expect on average to live to the age of 76. Today, he can expect to live to 85, and by 2050 to 89." (page 7)
(85-76 = 9) > (89-85 = 4)
It was pointed out in a discussion that pensions may be derived from investments abroad:"Pensioners who live off investments have the whole world at their disposal in which to invest. Just because we live in the UK and even if our investments are predominantly UK-based shares, that does not mean that we should always look at the ratio of UK pensioners to UK workers." x
2.9 State retirement age
Surely it is not necessary to raise the State Pension age, because it is already possible to postpone taking the BSP. I agree with an article in the Financial Times How a flexible retirement scheme could work (16th June 2006 x), This points out that under the rules introduced in April 2005, the BSP rises by 10.4% for each year that retirement is deferred. Increasing the State Pension age as proposed in the White Paper (page 113) therefore reduces the number of options. A flexible State Pension age from 60 upwards has been suggested:
"A better solution would be to scrap state retirement age altogether, and have a system whereby each individual chooses the age at which they wish to start drawing the state pension. Take it earlier and get less. Take it later and get more." x
Flexible retirement seems fairer because expectation of life varies, as shown for social classes in Figure D. i (page 179) in the White Paper. The English Longitudinal Study of Ageing x finds that more prosperous people tend to live longer. It is not possible to continue working in some jobs:
"I can't see how any person can carry on in the construction industry to the age of 69 or who would employ them. We can't all re-train to office work." x
"I have been 'pipped at the post' several times in the past few years by cheaper work-permit holders. ... Clearly the ethos of globalisation providing a cheap labour economy via immigration is one that prevails. ... It seems pointless raising the retirement age to 69 when it’s not possible for me to get a job at 54." x
The Financial Times article reports that 20 thousand people per annum are currently postponing taking their BSP are the state retirement age. A diagram from the Financial Times (15th June, 2006, page 3) shows than people have been retiring later in recent years. Perhaps they have to continue working because of necessity. An article in the Times Pensioners stay at work and send up number of jobless (17th August 2006) reports:
"PENSIONERS are flooding back into the labour market after they retire to compensate for plummeting pension values." x
2.10 Phasing out S2P
It is proposed to merge the BSP and S2P pensions into one pension.
"Reform the State Second Pension so that it becomes a simple flat-rate weekkly top-up to the basic State Pension." (3.13)
It seems that those people who have a record of full contributions, will then receive a lower BSP with top-up than they would have received from BSP and S2P together before the reforms. An article in The Times Middle classes to foot bill for pension reforms says:
"But the government wants to put a cap on S2P so that by 2030 everyone will receive the same amount. Many people will see the amount of S2P they receive plunge in value without enjoying an equivalent reduction in Nics. A higher-rate taxpayer will in effect be overpaying by £2,119 a year." x
S2P is cheap to administer. Phasing out S2P is therefore phasing out an efficient scheme. It will be replaced to some extent by NPSS which seems likely to be more costly to administer. The White Paper does not discuss the cost of administration of BSP, S2P or Pension Credit.
Personal saving
3.1 "Better under the mattress"
There is a heading in the White Paper Undersaving for retirement (page 35). There is the general assumption in other white papers and government literature that saving towards retirement is beneficial, for example:
"The Government is committed to encouraging more people to save for their retirement." x
But saving towards retirement is not beneficial if people get less out of pension schemes than they put in, or less out allowing for inflation:
"Allied Dunbar gave almost £94,000 of my pensions to a third party; without my knowledge, authority and signature." x
"If I had my time again I would not put a penny into pensions - its better under the mattress."; x "I would have done better had I stashed the cash under my mattress."; x "Pensions - The worst investment of my life"; x "You have to laugh.". x This happens quite frequently because of high charges especially resulting from commission payments combined with policies lapsing - in addition to scandals especially Equitable Life. Mick Cazalet said to the Treasury Committee:
"If you take the years 2001 to 2004 inclusive, life companies in the UK spent almost £30 billion on seeking to acquire new business and that is commission to intermediaries, it is other upfront costs. This is not to do with administering the in force business, this is money spent on acquiring new business. Those numbers are just crazy. ... now that the charge levels have gone up to 1.5% the great news is we can pay more commission to intermediaries." x
"If we take 100 personal pension plans that are started today, in four years from now we could expect less than half of those to be in force, that is the persistency pattern. People lapse their policies for whatever reason." x
When plans lapse people cannot get their money back because it is locked-in. It is eaten away by annual charges until they retire. Ned Cazalet is saying that the market is dysfunctional. This is a long way from Sir Callum McCarthy: "Personal responsibility is vital to the effectiveness of financial markets." x
The Government encourages people to save, which means making investments which often turn out to be disasterously bad, because of the charges of the industry. This has caused a legacy of distrust.
On the website of the FSA, depending on the kind of "investment product" there are: charges and adjustments, capital charge, charges and commission, charges and costs, charges and expenses, charges and fees, commission and charges, contract charge, costs and charges, establishment charge, entry charge, exit charge, expenses and charges, fees and charges, fund management charge, handling charge, hidden charge, initial charge, investment charge, management charge, monthly policy charge, periodic charge, preliminary charge, product charge, redemption charge, service charge, surrender charge, transfer charge, withdrawal charge.
The "entry charge" seems to be new. In addition to the above charges, there are various: adjustments, buy-sell or bid-offer spreads, costs, deductions, expenses, fees, levies, reductions. A cap on charges can provide an excuse for high charges by fixing the charges to be the same as the cap when they should be lower, for example:
"It is 'ridiculous' that stakeholder CTFs from providers offering computer-run index-tracking funds, including Halifax and Nationwide, cost 1.5 per cent. This is five times more than what investors would pay for the same type of funds outside a CTF." x
"Many equity CTFs levy higher-than-average charges than identical index-tracking funds, which are outside the CTF wrapper." x
The White Paper and previous Green Papers discuss "reducing barriers to saving" and "simplification". The FSA meanwhile introduces further complexity, such as a new kind of financial adviser, and new charges, such as being able to take charges out of capital rather than income.
I disapprove of all kinds of wrappers for shares - even ISAs, SIPPs and nominee accounts. They all separate people from their assets to a greater or lesser extent, and result in charges. ISAs are at least more flexible and less long-term than personal pensions.
There should either be direct ownership or through properly constituted organisations with trustees - like large occupational pension schemes, but not like NPSS as proposed.
3.2 The regulation of "products"
3.2.1 "Too good to be true"
The FSA refers to: "the shift to greater personal responsibility for pensions and savings". x It says: "Personal responsibility is vital to the effectiveness of financial markets." x It advises investors to "be alert to offers that seem too good to be true". This seems to be offloading responsibility onto individuals. The FSA should not permit such offers. Examples of the non-regulation of "products" are coming to light in the current EU investigation of Equitable Life. A former representative said:
"In hindsight, we were selling the with-profits fund in a way that, from what we now know, was reckless both for income drawdown and for with-profit annuities." x
Equitable Life with-profits drawdown without guarantees were so inferior in the opinion of one representative that he refused to sell them:
"I did regret, and made strong representations internally, when new With Profits annuities were first proposed to be sold without GIRs, I felt that this took away an essential amount of security. I was even more disturbed when With Profits Drawdown was sold without Reversionary bonuses and never sold another one thereafter.
It was and is my view that With Profits without guarantees is worse than Unit Linked, they might suffer the same loss of value in a downturn but at least with Unit linked you can see what is going on and have a better chance of recovery when the market picked up." x
3.2.1 Misnomers
Equitable Life policyholders complain about misnomers:
"I shall never understand how the regulator allowed Equitable to call these policies income drawdown when they were designed to be capital drawdown." x
"The term Managed Pension is really a misnomer. It means self-managed pension. It demands personal control by the pension saver." x
"We know that with-profits is a misnomer. " x
"The GIR on a WPA is a complete misnomer. It is not a GUARANTEED annuity rate at all; it is an ANTICIPATED annuity rate." x
There is a whole heirachy of misnomers in this subject. "Personal pension" is a misnomer because according to the Oxford English Dictionary a "pension" is a regular income received in retirement. Life insurance or assurance should really be death insurance or assurance.
"In most cases the title financial adviser is a misnomer and the correct title should be financial product salesperson." x
These misnomers can be rather serious when for example, it turns out that "with-profits" can mean without-profits and with-loses:
"I did realise there was no guarantee that my annuity would increase but never in my wildest nightmares imagined it could be slashed, at a stroke, by almost one third." x
3.2.2 Converting capital into income
The income drawdoan misnomer is an example of converting capital into income, which is a general problem in this area. For example Ron Sandler recommends that the 5% withdrawal rule should be abolished:
"The 5 per cent rule and the qualifying regime are unsatisfactory for a number of reasons:
they increase complexity and introduce additional product distinctions (between qualifying and non-qualifying policies);
the actions which they encourage serve no obvious public policy objective, whilst advantaging a particular type of provider: life assurance companies;
both regimes are regressive, in that their benefits are focussed on higher-rate taxpayers; and
they weaken competition by distracting adviser, and ultimately consumer, attention onto the tax features of the product and away from the more fundamental features of investment performance and charges."
(page 17, paragraph 96 of the Sandler Review)
The management charge and expenses of unit trusts and OEICS can now be paid out of capital rather than income, especially following "Part C CHARGING EXPENSES TO CAPITAL" of FSA Consultation Paper 32 (November 1999). x
The FSA holds consultations and then follows the wishes of the majority. This sound very democratic, but it results in it doing the bidding of the industry:
"The eleven responses to CP 14 were overwhelmingly in favour of the proposal to allow fund managers to charge expenses to capital in whatever proportion they regard as appropriate ... The main area of disagreement was the need for a meeting of holders to give permission to the manager to change the way expenses are charged." (3.3)
Taking charges out of capital increases the yield. The FSA states:
"Reaching for high yield products can be a dangerous strategy, which could put consumers’ capital at risk." x
It also conceals charges since they are no longer reflected in the size of the dividends paid by funds. The first of the conclusions of the Treasury Select Committee in its report on split capital investment trusts is:
"We believe that transparency in all aspects of the charges borne by investors should be paramount." (page 33) x
3.3 "Inertia" and "procrastination"
The Minister John Hutton, says in the Foreword to the White Paper:
"Millions of people today are not saving enough for their futures."
There was a recent discussion on this topic:
"But are you willing to pay for what you want? x
Millions of us DID pay. We were robbed by a combination of incompetence and corruption in the actuarial profession, employers and the government." x
The White Paper says that when considering whether to save for retirement, people are often subject to "inertia" and "procrastination" (page 42). This is to be expected. They have other responsibities and uses for their money. They may be put off by the high charges of personal and stakeholder pensions. There have been various scandals, as discussed in an article in The Times:
"The message sent to future pensioners by this and other scandals is that saving is a mug’s game... Who really thinks it is worth handing over money for 40 years to people who may lose it, scarper with it or diminish it by incompetence, leaving us at the mercy of a government that shrugs and turns away?" x
The White Paper also says they are subject to financial short-sightedness (page 11). The FSA says:
"The subject can be complex and people can find thinking about their long-term financial security dispiriting or even distressing." x
When financial problems seem insoluable people may even become paralysed by fear. In my opinion, in current circumstances the Government cannot expect everyone to save sufficiently for their own retirement. But the White Paper says: "Individuals must be responsible for their own plans for retirement." (page 22). "Promote personal responsibility" is the first of the White Paper's principles for reform (page 14).
The White Paper says that NPSS will "overcome inertia" (page 85). It will arguably not so much overcome inertia as use inertia, expecting people to remain opted in to the scheme.
3.4 Fairness
Fairness is a theme of the White Paper. The word "fairness" occurs eleven times and is a heading (page 22). Fairness is proposed for women and carers:
"The Government is committed to reducing remaining inequality in outcomes, particularly for women and carers." (page 106)
When she is not looking after me, my carer receives £6.80 per hour working for an agency. This does not include pay for travelling time between the homes of clients. Nor does it include gaps. There can be an awkward gap of for example, an hour between appointments. I understand that before "contracting out" to the private sector, carers were supplied by the NHS or local authorities. This was expressed by a contributor to a discussion as follows:
"Worth mentioning that 'contracting out' doesn't exactly help matters. The NHS or council sells the service to the lowest bidder who then employs cheap, untrained, badly treated and unmotivated staff while the private company pockets the profit supplied courtesy of the tax payer.
It's a truly cack-handed way to ensure a decent and efficient service. Similar problems with hospital cleaning, laundry and so on." x
Plundering the public sector says:
"Hospital cleaning should be brought back in-house with cleaning staff employed by the NHS and made to feel they are an important and integral part of a team providing safe medical and care services for the sick, rather than being easily disposable low cost labour for profit-maximizing outsourcing companies." (page 251)
If there were less people of working age then carers would be able to command higher wages.
If the Government wants people to save, then those people who do save should be treated fairly. The policyholders of Equitable Life have not been treated fairly. x x The Government allowed Equitable to continue in business when it knew it was bankrupt. Sir Callum McCarthy, Chairman of the FSA, said:
"The prospective benefit to its 1 million existing policyholders of a sale of the Equitable was bound to outweigh the prospective detriment to the 6,000 new policyholders who joined after the House of Lords verdict." (open letter to the Minister Ruth Kelly MP, on the FSA's website x )
There are considerable arguments between the Equitable Life guaranteed annuity rate (GAR), guaranteed interest rate (GIR) and non-GAR policyholders. Fairness surely implies that life assurance companies should not have such different classes of policyholders?
3.5 "The protection of consumers"
3.5.1 Definition
What does "the protection of consumers" mean? It is even vaguer than "the protection of investors" in the Financial Services Act (1986). "Consumers" are defined in the Financial Services and Markets Act (2000) to be the consumers of the services and "products" of the industry. What does "protection" mean? The Act says:
"5. - (1) "The protection of consumers objective is: securing the appropriate degree of protection for consumers."
which is almost the tautology: "The protection of consumers objective is to protect consumers." The FSA can say: "Sorry, we did not achieve our objective." "Duty" would be preferable to "objective".
The National Audit Office has been asked to review the FSA:
"The National Audit Office has been invited to carry out a review of the economy, efficiency and effectiveness with which the Financial Services Authority has used its resources, when discharging its statutory functions." x x
This review does not include "the protection of consumers" objective of the FSA, which prompted the comments:
"They do seem to be finally conceding and confirming that regulation in their eyes is just another tool to sell financial products of whatever quality." x
"The area of consumer protection is totally and completely ignored. .. Motherhood principles are embedded in the guidelines of the FSA and financial system at the expense of the consumer." x
It is surely savings and investments which need protecting in the first instance rather than consumers. For example my grandfather bought a whole life policy in 1929 on the life of my father who sadly passed away in 2001. The maturity value depended on how well the investment was protected during 1929-2001, rather than how well my grandfather was protected in 1929.
3.5.2 Less than full protection
The Chairman of the FSA, Sir Callum McCarthy, discusses the FSMA in a speech about Caveat Emptor :
"It does not provide protection that is 'absolute' or 'all-encompassing' for as FSMA further insists, regulatory protection of the consumer should be 'appropriate'. Specifically, FSMA directs that in assessing what protection is appropriate, the FSA must have regard to 'the general principle that consumers should take responsibility for their decisions'." x
The Act says:
"5 2) In considering what degree of protection may be appropriate, the Authority must have regard to-
(a) the differing degrees of risk involved in different kinds of investment or other transaction; (b) the differing degrees of experience and expertise that different consumers may have in relation to different kinds of regulated activity; (c) the needs that consumers may have for advice and accurate information; and (d) the general principle that consumers should take responsibility for their decisions."
Unfortunately (d) does not distinguish between the "differing degrees of experience and expertise that different consumers may have" in (b). The FSA refers to "vulnerable and inexperienced consumers" and "sophisticated consumers" who surely cannot be equally responsible.
A further reason why consumers are not fully protected is given on the website of the FSA:
"We do not operate a zero failure regime. So, we have not set out to ensure that firms will never fail." x
"Stability of the country's financial system" is another reason why consumers are not protected according to Sir Howard Davies:
"Sir Howard Davies, the former FSA boss, warned an audience of American regulators that decisions on consumer protection must never be allowed to harm the stability of the country's financial system." x
3.5.3 Choices can be wrong
The White Paper and the Green Paper Simplicity, security, choice: Working and saving for retirement (2002) x discuss "choice" especially "informed choice". Such as Chapter 3 of the latter Informed choice pensions - choices for individuals. But choices, whether informed or not, can unfortunately be wrong. Everyone makes mistakes - including governments, for example the new Home Information Packs. x The White Paper and Green Paper apparently make no mention of caveat emptor.
Taking responsibility for decisions is incompatible with getting a fair deal. Individual investors are in no position to negotiate charges - even explicit charges and especially not hidden charges. The Consumer Panel of the FSA and National Consumer Council dislike the caveat emptor principle in the Financial Services and Markets Act (2000), Section 5 (2) (d) .. ".. consumers should take responsibility for their decisions". When the Act was being drafted they said:
"It introduces a principle that is absent from all consumer protection legislation."
"We would like caveat emptor to go in relation to retail consumers."
Sir Callum McCarthy said in his speech:
"Some - I believe misguidedly - argue that these problems are so intractable that we should abandon the reliance on the market for retail financial products."
We should indeed abandon reliance on the market, and are doing so with the formation of NPSS. This submission claims that NPSS should abandon the market to a greater extent than currently being proposed.
3.6 "Consumer weakness"
The Sandler Review is much concerned with "the problem of consumer weakness". It even says:
"The route cause of the problems in the retail savings industry is consumer weakness." (10.89)
This problem is inherent because individuals are doing business with organisations and with professionals. The establishment of a new national pension scheme could help to overcome this problem.
As discussed above the Second Report of the Pensions Commission mentioned both the "management" and the "governance" of NPSS. But the "management" of NPSS seems to be missing from the White Paper. Who are the board of directors is rather critical. They should be appointed by independent organisations, such as the CBI, TUC and EMAG, rather than the Government. The NPSS board must be on the side of the members of the scheme.
With the growth of defined contribution pension schemes, people are being given more responsibility and investment risk. This is discussed in the Second Report of the Pensions Commission, for example:
"This shift in investment return risk creates the danger that many people will be ill-equipped to make good decisions. ... There is moreover extensive evidence that a substantial proportion of the population is both ill-equiped and recognises itself as ill-equiped to make informed choices between different risk-return combinations." (page 195)
People are advised by the FSA to become informed so that they are no longer "ill-equipped to make good decisions". They are also advised by the FSA to shop around. So that in addition to taking responsibility and investment risk, people are being asked to become informed and to shop around.
But does the FSA have to accept responsibility itself for its own decisions? It does not come within the remit of the Parliamentary Ombudsman, and appoints its own Complaints Commissioner. The regulators are not accepting responsibility for the Equitable Life fiasco.
3.7 The disclosure of transaction costs
The Treasury says that the trustees of occupational pension schemes should interest themselves in dealing costs:
"Transaction costs are an important cost to pension funds. For trustees to fulfil their duty to act in the best interests of their beneficiaries, trustees must ensure that these costs are properly managed." x
"Despite a great deal of controversy over Mr Myners’ proposals on commissions, few responses to the Government’s recent consultation disagreed with his central proposition, that these costs 'which are substantial' are 'subject to insufficient scrutiny' and that 'clearer and more rigorous disciplines could be applied'. On the contrary, the clear message from the consultation responses is that the problem is, if anything, greater than Mr Myners originally suggested ... Trustees, or those to whom they have delegated the task, should have a full understanding of the transaction-related costs they incur, including commissions." x
In its paper Bundled Brokerage and Soft Commission Arrangements (April 2003) under the heading Public Awareness the FSA says:
"Increasing the transparency of commission costs will improve the information available to consumers about the costs of investing. This will enable them to assess more accurately the benefits and risks of investing in managed funds and thus to make better-informed and more suitable choices." (A 2.13) x
Investors are interested in:
a) portfolio turnover, b) total stockbrokers' commission, c) whether or not there are bundled brokerage or soft commission agreements, d) two kinds of stamp duty: 1) on the units (in the case of a unit trust) and 2) on the underlying investments.
This information should be provided especially by the accounts of unit trusts and OEICS. Accounts should show who is being paid what out of fund assets without terms such as "transaction costs" followed by a vague definition such as, "transaction costs include brokers' commissions". The FSA recently ruled that soft commissions are restricted to payment for "research". They are sometimes referred to as "backhanders" in the UK x and "kickbacks" in the US:
"What the industry calls 'research' includes not just information and opinions on companies and the wider market, but also things such as computers, printers, network support, newspapers, online services, conference registrations and accounting and proxy services. Essentially, the mutual funds are using trading commissions to cover their most basic operating expenses out of client money, without the clients knowing." x
The units of a unit trusts should be separate from the underlying investments. But the term "stamp duty reserve tax" confuses the two kinds of stamp duty, because SDTR can be on both the units of a unit trust and the underlying investments.
"Stamp duty reserve tax (SDRT) is chargeable on the disposal and switching of shares in OIEC funds or units in a unit trust and on certain shares in the funds." x
The difference between SDRT and stamp duty is unhelpful for investors and causes confusion. In the accounts of unit trusts and OEICS, SDRT is often said to be on "disposal and switching of shares in OIEC funds or units in a unit trust", without mentioning the "certain shares in the funds". x
The UCITS definition of PTR involves both the units and the underlying investments, and for this reason is unacceptable.
3.7.1 UCITS
The term "simplified prospectus" has a different meaning for a fund situated in the US and Canada compared with one situated in the EU. Not all funds in Europe have a simplified prospectus. If an EU fund has a simplified prospectus this means it is UCITS-approved and can be marketed in all EU countries. The UCITS Directive for UCITS-approved funds says the simplified prospectus must contain:
" 2.2.1 (d) an indication of all the other costs not included in the TER, including disclosure of transaction costs when these are deemed to be available by the home Member State competent authorities;" x
This has become the FSA regulation:
"(14) (a) (iv) an indication of all the other costs not involved in the TER, including transaction costs" (from Policy Statement 05/4)
This is the same as the above except "disclosure of" is missing. "An indication of" seems vague. In one example x under "transaction costs" it says "They include brokers fees and linked charges." What else does it include? What are "linked charges"?
The definition of "portfolio turnover rate" (PTR) in the UCITS Directive is unsatisfactory. x In the case of a unit trust, the PTR compares the dealing in the shares held by the trust with the dealing in the units of the trust. Let S be the total of all purchases of shares plus the total of all sales of shares, and U be the same for units during a year.
PTR % = 100 x (S - U) / (average assets during the year)
Purchases and sales of units are called "subscriptions" and "redemptions".
The PTR should be negative. If it is positive, it follows that they are investing short-term and we are investing long-term. The standard definition used by Fitzrovia x and mutual funds in the US is:
portfolio turnover = minimum of total sales and total purchases
of shares held by the fund / average assets during the year
3.7.2 Prevarication by the FSA
The FSA in its Consultation Paper Bundled brokerage and soft commission arrangements for retail investment funds (2005) x x recommends that dealing costs, or at least bundled brokerage and soft commission arrangements should not be disclosed to retail investors but instead to "investor representatives". This suggestion has been dropped in the feedback paper PS 06/5, x which is not in favour of disclosure:
"We believe that making the disclosure information publically available would improve the transparency of costs borne by investors. We believe that most investors would not benefit from such information, so it would not be proportionate to require firms to provide it to them automatically. In particular, it is questionable whether the costs inherent in disclosure to investors would be justifiable, given that consumers are unlikely to make effective use of the information disclosed." (paragraph 2.6, page 7) x
The FSA uses terms like "disclosure", "publically available", "improve transparency", "provide it to them automatically", without specifying what this means. There will be little or no cost in just putting additional information in accounts. This feedback paper was reported in the Financial Times:
"Dan Walters retail policy director, said: 'We still view the investors' representative model as a potential solution but will allow firms to decide for themselves how best to achieve the outcome we want to see - namely, that the interets of retail fund investors are better served through more transparency and challenge on the use of fund assets to purchase research and execution services.'" (30th June, 2006, page 3)
The FSA's discussion of bundled brockerage and soft commissions arrangements has been a red herring, because in the first instance investors would like to see the total stockbroker commission, and this is only one aspect of dealing costs for retail investment funds. The Consultation Paper does not mention stamp duty at all. It mentions portfolio turnover only once (page 11). There is for example a heading The limitations of disclosure in the retail market. Disclosure of what? This section starts:
"2.8 We have considered whether it would be desirable to mandate disclosure of bundled and softed arrangements to retail investors. Our conclusion is that the benefits would be very limited and would not justify the likely cost to investment managers. .. Most retail investors have little or no knowledge of the way securities are traded or the kinds of arrangements that exist in the wholesale market, so the information would be largely meaningless to them."
What are "the kinds of arrangements that exist"? I would like to see a list. Pension funds have a number of arrangements including: "fee-sharing agreement", "commission recapture", "directed commission". Do retail investment funds have the same arrangements? In a submission to the Maurice Review of the Actuarial Profession the IMA said, with reference to pension funds:
"Commission recapture can be directly contrary to the fund managers duty to provide best execution for his client by forcing him to transact through different brokers at a higher cost than would otherwise be the case." x
SIPPs are an example of commission recapture:
"All Sipp providers make some money from dealing charges and stockbroking fees." x
The FSA does not encourage "consumers" to "get to grips with the detailed workings under under the bonnet". It says on its website:
"Just like buying other consumer products, you need to shop around. Like buying a car or a washing machine, you don't have to get to grips with the detailed workings under the bonnet or inside the case." x
It says that even if they do "look under the bonnet", "the information would be largely meaningless to them". Even if it is not "meaningless", the FSA says "it is highly unlikely they would be able to use this knowledge":
"2.10 Furthermore, disclosure as a tool is only valuable only if the recipient can use it to challenge the behaviour of the provider, and to secure improvements if necessary. Assuming that a minority of investors were able to make sense of these disclosures, it is highly unlikely they would be able to use this knowledge to hold the investment manager to account." x
Of course disclosure is also valuable when investors are considering buying "products". The FSA's proposal for "investor representatives" implies that there may be a need to "challenge the behaviour of the provider" after a sale. It follows that "products" are not very well defined. There is a further heading in the Consultation Paper Disclosure to a wider audience which concludes:
"Consequently, we do not think that publishing bundled brokerage disclosures can alone be relied on to delivery transparency and accountablility to retail investors.
Q1 Do you think that compulsory provision of commission disclosures to all investors in retail products would be beneficial?"
In the first instance retail investors would like to know the total size of stockbrokers' commissions. Although the FSA says: "Increasing the transparency of commission costs will improve the information available to consumers about the costs of investing." quoted above, we are actually no further forward. This is prevarication.
3.8 Portfolio turnover
Dealing costs are closely related to portfolio turnover. Less dealing results in lower costs, whatever the dealing arrangement. Portfolio turnover has to be shown as a percentage in the accounts of mutual funds in the US.Following an EU directive, UCITS-approved funds have to give portfolio turnover in the simplified prospectus. This uses a different, and in my opinion inferior, formula for calculating turnover. The FSA has not encouraged the disclosure of portfolio turnover. In its Consultation Paper Informing consumers: product disclosure at the point of sale (2003), it says:
"We have concluded that portfolio turnover would, as some respondents suggested, be very difficult to interpret in a useful way. We accept that it would be over-simplistic to interpret low turnover as a good thing. We also accept that for the information to have any validity a correlation would need to be demonstrated between past turnover and future turnover. We have not yet determined such a correlation exists. For those reasons we have decided that we will not bring forward proposals to require the disclosure of portfolio turnover." (5.81)
In their response to this Consultation Paper, Fitzrovia disagrees with this decision not to disclose portfolio turnover. x They quote Professors Blake and Timmermann: "We are not persuaded by the argument that important information should not be published just because investors might 'misuse' it."
I have copies of two reports from Fitzrovia showing the portfolio turnover of UK-based unit trusts and OEICS. These are discussed on my website at www.comparativetables.com/princ. Average values for portfolio turnover for the funds in different sectors can be found in the ONS publication Financial Statistics.
3.9 Total stockbroker commissions
There are all sorts of estimates in the literature about what are total stockbroker commissions. The recent article Transparency on commissions could transform investment by Philip Augar and Paul Myners says that:
"UK equity dealing commissions paid by UK investors alone exceed £2bn a year, with significant additional costs in respect of international equity investment." x
They refer to "costly and frequently value destroying trading". Paul Myners is reported to have said in 2003 "nearly £1 billion of the trading costs was paid as commission to investment brokers." x In the same year the Consultation Paper of the FSA Bundled Brokerage and Soft Commission Arrangements (April 2003) x said:
"In 2000, for example, UK fund managers paid about £ 2.3 bn from their clients' funds to UK brokers." (1.1)
Also in the same year, the report from OXERA An Assessment of Soft Commission Arrangements and Bundled Brokerage Services in the UK (2003) x says that total brokerage commission increased "from £ 1.5 bn in 1992 to £ 5.7 bn in 2000" (paragraph 103) and was increasing by 18% per annum. Therefore it will probably now be over £10 billion per annum. Of the £ 5.7 bn, £ 4.5 bn was paid by institutional clients as opposed to private clients (paragraph 218).
3.10 Lost investments
The White Paper refers to the pension tracing service:
"the free service we offer to help people to trace unclaimed an 'lost' occupational and personal pensions" (1.139)
There are other tracing services such as the Unclaimed Assets Register. These are admirable. But this is putting responsibility on individuals. Investments should find investors. Financial companies could more easily find investors if national insurance numbers, or the proposed personal identity numbers were put on life assurance policies and bank accounts. This is discussed on my website. x
3.11 Globalisation
The White Paper does not mention globalisation. The Chancellor Gordon Brown is enthusiastic about globalisation. He has set up a Globalisation Panel. x He concluded a recent speech:
"The city of London is showing us that Britain can succeed in an open global economy, a progressive globalisation, a Britain that is made for globalisation and a globalisation that is made for Britain." x
The city of London seems to be more concerned with "competing in the global economy" than it is with pensions. This is a reason why a new organisation needs to be set up to manage a new scheme.
The FSA says that "to exploit the global potential of cyberspace" consumers need information:
"Information needs to be clear, fair and not misleading if consumers are to develop sufficient confidence to exploit the global potential on cyberspace." x
On the other hand, Sir Callum McCarthy said in his speech quoted above that too much information can result in "deeply undesirable results":
"I am concerned to see a retail market for financial services in which there are informed and responsible customers; information that is, as well as clear, fair and not misleading, accessible and accessed; and providers who treat their customers fairly. What I do not want to see is a system where we demand more and more data to be provided to prospective customers without evidence that those data are accessed and used. That would have deeply undesirable results:" x
This emphasis on information is a disadvantage of markets. Equitable Life policyholders complain that the FSA provided misleading information. x The industry seems to take advantage of the many people who have more money than they know what to do with, and cannot be bothered to invest it properly even if information is "clear, fair and not misleading".
May 2006