Why understanding your workplace pension’s default can drive better engagement

Selecting a workplace pension provider is more than just meeting auto-enrolment requirements. Employers who understand the default are more likely to provide solutions that help employees engage with saving and achieve better retirement outcomes.

Employers understandably want to do the best for their employees. That’s why many of them dedicate significant time and attention to assessing a workplace pension’s contribution structures, charges and employee communications and engagement.

However, it’s a workplace pension’s default investment option that’s perhaps most important for positive retirement outcomes for employees.

Default matters more than most realise

Nine out of ten (90%) of defined contribution pension scheme members stay invested in the default until retirement, never actively making an investment decision.

That’s why it’s important for employers to understand how a provider looks after and ‘governs’ its default. It’s also important to understand if the default is designed to evolve so that it can continue to meet employees’ retirement needs - not just now but in the future.

Good practice for a default today includes a diversified, growth-focused approach during employees’ early years, combined with a gradual transition to lower-risk assets as retirement approaches.

Diversification extends beyond traditional assets

Historically, workplace pension defaults relied heavily on publicly listed shares and government bonds. This mix supported diversification because, when one fell, the other tended to cushion the blow.

But against today’s economic backdrop, bonds and shares have increasingly fallen in tandem. This weakens the value of this traditional asset split - one that’s long underpinned workplace pension defaults - in terms of diversification.

So, to properly diversify a default with the aim of maximising returns, it’s worth checking whether a provider invests beyond traditional assets. This might include investments in property, infrastructure, commodities, private debt and other private market assets.

As well as offering diversification and the associated benefits of different drivers of returns, this gives employees the opportunity to invest in parts of the economy not easily available through public markets.

While these investments aren’t appropriate in every circumstance, employers should understand whether their provider has the scale, expertise and governance necessary to invest efficiently and access a broader range of opportunities as part of trying to offer better employee outcomes.

The importance of flexibility

A robust governance framework and regular review process are equally important, helping ensure the default remains fit for purpose as markets, regulations and the behaviour of members evolve.

But this doesn’t mean your provider should simply launch new defaults or strategies for new members as things change. Doing so risks leaving existing members in older default options and outdated strategies, potentially negatively impacting their outcomes. Instead, look for a provider that reviews and updates its existing default to suit all members - not just the newest joiners.

Flexibility should also extend to retirement option targets beyond traditional annuity purchase. Employees should have access to a default option that’s suited for their end retirement income goal- whether that’s drawdown, an annuity or taking one or more cash lump sums. And, crucially, they should be able to switch between these options quickly and easily if their retirement plans change.

Responsible investing is expected

Employees are becoming more interested in how their pension savings are invested. Environmental, social and governance (ESG) considerations have moved from a niche concern to a mainstream expectation for many workplace savers.

Responsible investment is about more than values though; many providers view it as part of effective risk management and long-term stewardship.

Employers should understand how providers incorporate ESG considerations within default strategies. While this is important as part of the default, employers should also check whether there are options beyond the default if employees wish to align investments more closely with their personal preferences.

This could include sustainable funds, which tend to exclude outright investing in certain companies and industries. This may be different from a provider’s responsible investment strategy, which could involve engagement with companies to encourage changes to improve ESG issues rather than flat out excluding them.

Looking beyond the investment strategy

Investment design is crucial, but employers should also consider the wider proposition. Areas worth assessing include:

Dedicated onboarding teams
Salary sacrifice capability and ongoing support
Retirement guidance and support at retirement
Digital tools and employee engagement capabilities, such as an app with notifications that puts information about employees’ pensions in their pocket
Investment governance and value-for-money oversight
The provider’s ability to evolve alongside regulatory developments
Support for employees with differing retirement objectives.