DC pension schemes need more investment flexibility

UK defined contribution (DC) pension schemes should consider a more flexible approach to investment in 2009, particularly if they are employing unsuitable and underperforming legacy funds, says Fidelity International.

Tailored portfolios can provide this flexibility. They are bespoke, white-labelled multi manager funds, constructed for the pension scheme members, by the pension scheme sponsor (with expert input from both consultant and investment platform provider). Unlike changes to a portfolio of single manager funds, the funds in a tailored portfolio can be switched without impact on the fund objective - thereby reducing time, cost, member communications and governance implications.

Bespoke funds are increasingly popular with UK DC schemes and Fidelity recently launched its 100th tailored portfolio. Fidelity introduced its first such open architecture fund in 2005, added 12 more in 2006 and now runs 103 for clients, many of whom have more than one tailored portfolio.

Julian Webb, Executive Director, DC Business Development, Fidelity International, says, "While it's vitally important that DC members should stay invested, there's nothing to stop sponsors of DC schemes changing funds and selecting more appropriate vehicles to help get employees ready for retirement.

"We know that many funds currently available to DC members are legacy products - not all of which will be suitable for a wide range of market conditions, and even less will be easy to change. I fully expect more schemes to upgrade their investment choice in 2009 to something that includes more tailored investment options, where underlying funds that do not cut the mustard or no longer meet the scheme objectives can be amended quickly and simply.

"At Fidelity, demand for tailored portfolios continues to grow and, for providers with robust investment platforms, such funds can be simple to construct - offering crucial roles for consultants, providers and sponsors. It is safe to say that, whether employed as a default fund or as a range of white labelled funds for members who do not want the default, tailored portfolios is the biggest untold success story of DC pensions so far."

How tailored portfolios work:

Each combines 3-6 underlying funds, often from different asset classes

They are created in consultation between Fidelity, the DC plan sponsor and its consultant, in line with the pension scheme objectives

They are usually employed in two ways:
as scheme's default fund and / or
as a second level of funds, giving members a choice such as ABC plc defensive fund, ABC plc cautious growth fund and ABC plc aggressive growth fund

Tailored portfolios require a robust investment platform in order to offer adequate diversification of fund manager and asset class both within each tailored portfolio and / or across a range of tailored portfolios.

When choosing a platform, Fidelity suggests DC schemes look particularly at the range of asset classes, as Julian Webb explains: "Many schemes are embracing greater diversification, building their default fund around a global diversified type multi-asset fund, and tailored portfolios are a perfect way to achieve this. I would advise schemes considering this route to look at the multi asset options on a provider's investment platform because those with a healthy choice will be able to switch like with like more easily."