Speeches, presentations and articlesThe role of trustees in our protection framework

David Norgrove, chair, speaking at the NAPF Annual Trustee Conference
December 2009

I'm very pleased to join you today to talk about the role of trustees in our protection framework.

As we assess at this point in the cycle, it is opportune to come together to pay tribute to the essential role of trustees in both DB and DC.

This is a subject Lawrence Churchill and I spoke on in Washington last month when meeting the Pensions Benefit Guarantee Corporation, our DB equivalent in the United States.

Though our systems are not the same, we face some common challenges, and as we shared our ideas on how to manage new and evolving risks, we also spent time explaining how the US and UK regulatory systems differ – and that was clearly pronounced when considering the role of trustees.

As part of that experience Lawrence and I presented to the White House National Economic Council – and I highlighted three key issues which matter to us:

• the critical role of independent, empowered trustees
• the importance of truly independent regulators, tasked to protect benefits
• and a principled scheme specific system, focussed on managing risks openly to secure the pensions promise

In the UK more than a hundred thousand trustees represent millions of members, managing assets in excess of £1 trillion across DB and DC markets.

In the US, there is less focus on the trustee - sponsors and the PBGC interact directly and regularly.

Our systems have evolved within different corporate and political cultures, but what was clear for us all - reflecting on the progress which we have seen in the UK under the 2004 protection framework - was that trustees are an essential pillar.

The UK approach works because trustees play their role within a risk-based, levy-funded protection system, alongside a principled scheme-specific funding system and a proactive regulator...and even faced with the challenges of the last 12 months, this approach has held up – [something CBI members recognised in their survey this week].

So let me start by expressing my appreciation for trustees across our regulated community.

Every day professional and lay trustees exercise their fiduciary duty facing complex and changing risks…

…so today, first I want to touch on some of these risks; and second, to explain how we seek to help trustees improve risk management through good governance and administration so they can face the challenges ahead with confidence.

In doing so I will take the opportunity to explain one specific risk - transfer incentives or enhanced transfer exercises.

Behaviours have changed since we produced guidance on inducements in January 2007 and some behaviours are creating concern.

So my message today is clear – trustees should start from the presumption that such liability management exercises and transfers are not in member interests.

I'll return to this shortly.

….But first, this conference “seeks to learn lessons from the current downturn”….a business cycle unprecedented in living memory…and clearly there have been lessons for us all.

It is the first recession to test not just trustees but all of us operating within the 2004 protection system, and let me be realistic – the challenges and risks are persistent.

In DB scheme funding terms, now is a critical time, as we receive recovery plans based on triennial valuations in the trough of the economic cycle.

We are seeing trustees adapting their approach to funding and recovery - responding to the difficult situation that many sponsors are finding themselves in.

Our 2009 analysis published last month has seen an increase in average recovery plan length from 6 to 8 years, an acceptable drift.

And looking back through this downturn, as we made clear in our funding workshops across the UK in June, collectively we must reinforce our commitment to prudence and the primacy of technical provisions. Trustees cannot compromise on assumptions; we cannot go down that road.

In DC terms, trustees must focus on helping members get best value from their savings pot – ensuring members shop around and consider the open market option.

We'll be looking to trustees to respond to our recent research and campaign on DC retirement literature, because improvements can be made and we believe members deserve the opportunity to maximise their pension value at all times and especially in the current climate.

But as we look at the lessons we can also look to the potential for reform:

• in terms of extending occupational pensions to millions of people through auto-enrolment and bringing a million more employers into provision;
• and in terms of returning to improving asset values and more certain corporate cashflow, which should lead to lower deficits and shorter recovery plans going forward.

Facing such change, we must continue to ensure robust governance foundations are in place.

This is the focus of our current regulatory campaign, and I would like to acknowledge the NAPF for their efforts in this. Most recently the Pensions Quality Mark which we welcome as a positive effort to improve governance practice.

Trustees should look carefully at their governance processes - their internal controls - and ensure the right people with the right skills are advising them…because good governance underpins secure pensions.

And it matters more now than ever:

First, because of the economic cycle;

Second, because of those new and evolving risks;

Third, because we must get the basics right before reform;

And fourth, because the landscape is shifting:

…as many closed schemes are set on an end game of buy-out or de-risking we remind trustees to focus on the long-term, and where a sensible route to buy-out can be secured, they should scrutinise plans and providers with care.

We at the regulator can focus on material detriment, through our amended anti-avoidance powers – but trustees need to make the right long-term choices for their members.

It is no surprise that as employers grapple with volatile deficits, we see new risk management strategies emerging, and new mechanisms and models for transferring liability.

So this year, just as we set out to explain our scheme funding system, we also made clear the importance of being vigilant to risks in the downturn – from transfers to fraud, and I want to focus on the former now.

We hear more discussion in the industry of transfer incentive exercises and parties including trustees, employers, advisers and even the Ombudsmen have approached us with examples of where such exercises raise concerns.

Reports have been made of a number of worrying tactics – including

• the offer of advice paid for by the employer - on the condition that members take that advice
• excessive pressure to make a decision – with constant emails, phone calls, and even home visits
• the provision of misinformation, including a strong suggestion that the future of the scheme is at best uncertain and that it is in the interest of the member to transfer out; and
• putting excessive time pressure on members to make a decision - suggesting that there isn't enough money to go around so members must move quickly to take advantage of the offer.

We are concerned by these behaviours, even where such exercises may be compliant with the letter of the law.
The FSA state in their guidance with respect to DB transfers:

“We wish to stress to firms our belief that it is very difficult to make a direct offer financial promotion for a DB pension transfer that is fair, clear and not misleading…and meets the FSA's other rules.

Such a decision is likely to be too complex for a consumer without specialist knowledge to make and it will be very difficult for a financial promotion to fully explain the risks.

The FSA reminds firms that in reviewing such financial promotions, the FSA will start from the presumption that such transfers are not suitable.”

I agree with this and I believe as a matter of policy trustees should also start from the presumption that such exercises and transfers are not in member interests.

Many members are likely to be strongly influenced in their decision to transfer by the immediate prospect of receiving an attractive amount of cash - or by an offer which contrasts an 'enhanced' transfer value with a pension from an under-funded scheme.

What is not often not explained or understood is that the term, 'enhanced' may be misleading or misunderstood - as the sum being enhanced may first have been heavily discounted. Or that the protections, including the trustee board, will be given up. Or that they are moving from a DB scheme backed by a sponsor to a DC scheme where they themselves bear all the risks.

There may be individual circumstances that lead some individual members to make a transfer decision based on sound rationale and advice – but in general it is unlikely to be in member's interests to transfer out of a DB scheme.

If a company is willing to encourage the transfer, the company's gain is likely to be the member's loss.

Where a transfer is offered between occupational pension schemes the FSA requirements do not exist and trustees are the line of defence for members.  We believe that trustees should engage with such exercises and should ensure members are aware of the issues.

Starting from the presumption that such exercises are not in the best interest of members, trustees may decide not to release data that they hold to enable such an exercise to be run without their scrutiny.

Where an enhanced transfer exercise is being run, trustees need to think about how they influence or supplement any information that is being provided to ensure the targeted members have a full, fair, clear understanding of the offer and the risks so that they are not misled.

Lastly trustees can have a role in ensuring members have access to free, impartial advice, managing any conflicts arising from the fact that the employer may be paying for this.

We will look to expose risks and to enable best practise, as we endeavour to educate a trust-based self-regulating pensions industry – and that is my intent with this discussion of transfer incentives today.

However, where behaviours are particularly concerning, we may look to use our anti-avoidance powers.

We ask trustees to be vigilant in exercising their fiduciary duties.

They should refer to our guidance for help…

…And contact us if they have concerns, as others have done. 

I now want to look further ahead, beyond these current risks – to the risks facing us as the landscape continues to change.

There are already almost 2.5 million DC scheme members in the UK in over 54,000 occupational schemes…and an approximate £500m in assets.

And an additional 3.2 million employees who have entered personal pension arrangements negotiated by their employers – through group stakeholder pensions, GPPs or Group SIPPs.

All of these members bear significant risk and more individual responsibility for the outcome of their pension savings.

And this outcome is undeniably influenced by the quality of the choices that they make – or don't make - about contribution levels, fund choices, retirement options and so on.

So with this in mind we have been focused on improving standards in DC provision – in two areas in particular:

Firstly - improving standards of administration and governance – especially focused on the information provided to members as they approach retirement but also when they decide in the first place whether to join the scheme.

And secondly - supporting employers in understanding the responsibilities and opportunities they have when they provide DC pensions, and helping them to fulfil that role as effectively as possible.

For now let me focus on the first key theme and the importance of good scheme governance.

Our work today builds on the good foundations already in place and is based on ensuring that trustees:

• have the right skills to do the job -  and the right people available to help them to run their pension scheme;
• and have the right processes in place to manage scheme risk.

To launch our current governance campaign, last week we published a statement which sets out our overall approach – along with the results of our 2009 governance survey.

We are very much aware that the vast majority of schemes are run by dedicated and hard-working individuals.  And we know that trustees often have a challenging job to do and there is a lot of evidence of good practice.

For example we found that trustees in an increasing number of schemes have reviewed the sponsoring employer's business plans. And an increasing number of trustees believe their board is able to conduct effective negotiations with the employer.

There has also been an increase in the proportion of schemes who feel the trustee board has appropriate processes in place to manage conflicts of interest and who are actively monitoring and managing service providers and professional advisers.

This is important progress and in highlighting these improvements I seek to reinforce these critical areas of good governance.

But - even though we have seen significant improvements, there are still gaps.

For example, only six out of ten trustees describe their boards' collective understanding of how their assets are invested as 'very good, and only the same proportion feel their ability to assess the employer covenant was 'very good'.

Fewer than half the schemes in the survey feel 'very confident' that they have appropriate internal controls to mitigate the risks of errors in the scheme's administration - or inappropriate investment strategies.

And fewer than half of schemes are aware of the regulator's guidance on record keeping.

So, over the next few months we will be working to update our guidance and to provide new or additional support in key areas of governance including:

• internal controls
• trustee knowledge and understanding
• record-keeping, and
• wind-ups

Our refreshed internal controls guidance – which was published for consultation last week - has been adapted to take into account the specific needs of small schemes as well as to continue providing clear guidance for large schemes.

At the same time we also launched two 'bite-sized' pieces of 'e-learning'.

These provide an overview of the topic – including case study examples, and a short 'nudge' which sets out the headline learning points about risk and internal controls.

 

We have also recently undertaken a review of the Trustee Knowledge and Understanding code of practice, which was finalised this week.

Most respondents to our consultation acknowledged that an increased level of knowledge and understanding has made a positive difference to their confidence in approaching their duties.

This is encouraging.

However we will continue to work hard to encourage trustees to complete the Trustee toolkit modules that are appropriate to their scheme - and indeed to seek appropriate training where they see fit to help them fulfil their duties.

Looking into early next year we will consult on new proposals for record keeping – which will include standards for the accuracy of data to be secured before reform.

And rounding off the campaign we will be updating our guidance on the winding up of pension schemes, because these need to be smoother, more efficient, and they should happen quicker.

So working in partnership with our regulated community, and putting the tools and guidance in the market for trustees, we seek to shift behaviour in these targeted areas. Again, where trustees have questions or concerns, they should contact us, and I hope many of you will engage with the consultations, guidance and online material.

But let me return to the longer-term… and our part in the reforms.

The new duty on employers, for which we will have oversight, is an important part of the reform - especially for smaller businesses that have not previously chosen to get involved in pension provision, nor had a relationship with the regulator.

We know that employers and providers alike will need time to build the necessary changes into their business planning. And that when faced with new legislation, employers turn to intermediaries to help them to understand what they have to do.

So next year we will make sure that the widest range of intermediary bodies – accountants, IFAs, employee benefit consultants, trade bodies and providers – have all the information they need to offer that support, when the time comes.

And we will be designing and testing our processes hand-in-hand with the pensions and business community – bodies like the NAPF, British Chamber of Commerce, EEF, Federation of Small Business and the CBI, as well as talking directly to key providers, to make sure that we get the detail right.

We believe the opportunity and challenge of regulating such a significant volume of employers is best achieved through applying a regulatory approach which is consistent with our existing risk-based model.

So we will focus on providing education and support at the right time for those who need, from trustee to employer, provider to adviser…

…because that principled approach runs to the heart of our framework, and if we remain transparent, open and positive, we can secure the framework of protection long-term:

• whether that be in managing scheme funding in a way which allows for flexibility during difficult times - focussed on prudence and the primacy of technical provisions
• ensuring trustees remain vigilant to complex and changing risks, like transfer incentives
• enabling best practice and good governance; or
• putting the foundations in place for auto-enrolment

That, in my view, is how to secure the protection framework for the long-term.

Trustees have an essential part to play.

For your own part, past and in the future, thank you.