If you have worked for a number of different organisations throughout your career it is likely you have accumulated a number of different pension funds. All of which will have grown at different rates and be worth different amounts.
A comment I hear on a fairly regular basis is that one pension is “better” than another one because it has performed better and therefore all the various pensions should be consolidated into the “better” one. It is assumed pension provider A is better than pension provider B simply because the value of the pension fund has grown at a greater rate.
I can understand why people have this thought process but it is actually flawed thinking which becomes clear when you consider the reasons why one pension may have performed better.
How old is your pension?
Fifteen to twenty years ago a direct comparison of pension companies based upon performance alone would have made more sense because the only investment options available were the investment funds managed by the pension provider themselves.
These days, however, there is more choice and a large number of pension providers simply act as the administrator of the pension; they collect contributions, apply to HMRC for basic rate tax relief and make sure the contributions you make are invested in the funds you have chosen. The choice of funds into which you can invest come from a broad range of fund management companies who have made their funds available through the pension provider.
Depending upon the age and type of pension you have, the number of available funds may range from a dozen or so to thousands, some of which may be ‘internal’ (i.e. managed by the pension provider) and some will be ‘external’ (i.e. independent of the pension provider). So, the performance difference may be down to the quality of the funds in which you are invested and nothing to do with the pension provider.
How is the pension invested?
But the quality of the funds you are invested in is only one reason why your pension funds are performing differently. Another reason is the risk that is being taken within the pension funds may differ. Investment risk, as explained in this video, can take many forms but for most people, in their minds, it relates to the extent to which the value of the fund has risen and fallen over time. A pension fund that is more heavily invested in shares (equities) will have greater short-term swings in the value compared to a lower risk portfolio; one that is more weighted to cash or fixed interest securities (click here for an explanation of fixed interest securities), for example.
Over time you would expect the equity-based portfolio to perform more strongly because the global equity markets provide the greatest long-term returns compared to any other asset. Let’s assume you have two pensions both started in 2009. One is more heavily invested in lower risk fixed interest securities and cash. The other is more weighted towards global equities. The equity-based pension portfolio has enjoyed the full extent of the decade long bull market that coincided with the start of the pensions so would naturally perform better than a ‘lower risk’ pension. I put the lower risk in inverted commas intentionally here because it highlights that risk comes in many forms; in this context, there is a risk in taking a lower amount of equity risk (short-term volatility) and missing out on long-term higher returns.
How much has been paid in?
Additionally, the simple reality might be that one pension had more contributions paid into it so would have had a significant head start on a pension fund that received only nominal contributions, perhaps due to a short employment period at a particular company or, as was common at the end of the last century and the beginning of this one, some pensions were established to receive rebates when employees were ‘contracted out’ of the additional State pension (SERPs as it is still often referred to).
How much are you paying?
Finally, a lag in the performance of one pension compared to another could be nothing to do with how the pension is invested but down to the level of charges be levied on the fund. Older style pensions that date back 10 plus years are likely to be much higher charged causing a real drag on performance.
If you have accrued a number of different pension funds over time it can be a very worthwhile exercise to review them for their suitability. It may be that all that is needed is an amendment to the underlying portfolio to ensure it is invested in line with your lifetime objectives, timeframes and willingness to take investment risk. Sometimes, however, changing the pension provider can reduce the charges you are paying and provide access to a more diverse range of funds both of which should lead to more money in your pocket and ultimately, financial freedom and security all the sooner.
If you would like to review your pensions to make sure they are suitable for your retirement plans please do get in touch: www.neliganfinancial.co.uk/contact-us.