Market volatility and UK defined contribution pensions: future risks for employers?

In our previous blog, we considered the risks under the current legal regime in the UK to employers, trustees and providers arising from losses suffered by defined contribution (DC) scheme members as a result of the market volatility in recent years. 

In this blog, we look forward by examining upcoming regulatory developments and what these may mean for employers, trustees and providers from a risk of member claims perspective.

There is a lot going on in pensions at the moment. Next week, we’ll be considering the implications more generally of the draft Pension Schemes Bill (the Bill), which was published yesterday.    

New UK government proposals

It is no secret that DC schemes are of increasing interest to the UK government, which recognises the risk of inadequate retirement outcomes and the role investment can play in generating economic growth (see our recent blog).  The Bill includes many of the proposals to reform the DC pensions market about which the UK government has been consulting.  

A major part of the proposals are designed to boost consolidation. On default funds, the Bill will require that multi-employer DC schemes (both contract-based and trust-based arrangements) must operate at least one default arrangement of £25bn by 2030. Schemes which can satisfy regulators that they are on a “transitional” path will have until 2035 to meet this objective. Interestingly, schemes run for single employers will be exempt from these scale requirements. 

A wider goal of these various government initiatives is to shift the market mindset from cost to “value for money”.  In this respect, the Bill contains several initiatives related to transparency and value for money assessments. As we explain below, this new focus creates risks for employers and providers in the context of default funds and market volatility.

Transparency and value for money assessments

Easier (and more frequent) access to information by members about their pensions is a good thing, but the flip side is that this may exacerbate employee concerns and appetite for bringing claims during market downturns. 

Under the Bill, schemes will be required to publish data on prescribed metrics, such as investment performance, charges, asset classes, and quality of service provision. Further, schemes will be required to use this data to carry out their own “value for money” comparisons against other schemes. Such comparisons will become easier as the market consolidates. 

Where a scheme is “not delivering”, the trustee or provider will be required to prepare an action plan and share with this with UK Pensions Regulator. The UK Pensions Regulator may then require the members to be transferred to another scheme – the risk of claims by disgruntled members against the predecessor scheme would invariably be heightened in this situation. 

The Bill also enables amendments or transfers of poorly performing contract-based pension arrangements without member consent, where this is in the “best interests” of members. Employers will be notified about transfers but they will be unable to object (although it is unclear how a transfer to a trust-based scheme would operate without employer agreement).

These measures – together with the long-awaited pension dashboards phased-in from 30 April 2025 to 31 October 2026 - will mean materially greater employee awareness of underperformance in default funds and the associated risk of claims. 

The risk facing trustees and providers may be more obvious where things go wrong. But as we explain below any resulting claims may also seek to pin liability on employers.

Role of the employer: what happens if an arrangement is “not delivering”?

In the UK, employers are responsible for choosing a pension arrangement for their workforce and selecting the initial range of investment choices and the composition of the DC default fund. After that stage, the scheme trustee or product provider (as appropriate) manages the investments on behalf of the members. The UK government has expressed concerns that many employers see initial choice as a matter of compliance, with focus on cost rather than value. However, the government appears – at least for now - to have backed away from introducing a positive statutory duty on employers to monitor the overall value of their workforce pensions arrangements.

Nevertheless, the risk of trustees or providers deeming particular arrangements to be “not delivering”, especially after periods of market volatility, is likely to increase risk for employers. Employees may seek to argue that any “not delivering” assessment is strong evidence that their arrangements have, to date, underperformed the market. This could embolden them to bring mass action claims after market shocks as employees have done in the US. In practice, any such claims would likely seek to cast the net as wide as possible by including the employer within the scope of the claim. There may be particular risks for employers with in-house (single trust) schemes, which won’t be subject to requirements for scale and so may increasingly diverge from the benefits derived from commercial multi-employer schemes. 

What should employers do now?

Market volatility may well continue as a feature rather than a bug in the system and so employers may wish to assess the appropriateness of their default fund offering. In doing so, employers should consider:

• Whether the default fund is or remains appropriate relative to the wider market, given the demographics of the membership. This can be a factor at all stages of the retirement journey; some funds may not have sufficient growth assets for younger members, but be exposed to too many risks closer to retirement. 
• Whether to continue to use a contract-based arrangement (a group personal pension) or a trust-based arrangement (a standalone trust or a commercial “master trust” arrangement for unconnected employers). The regulatory regime and level of employer engagement is different for each system. The changes explained above are (in our view) likely to encourage the commercial master trust route and consolidation in the contract-based market, with a move away from legacy stand-alone company arrangements.

In short, whilst the regulatory developments above have much to commend them from a member experience perspective, they are (in our view) likely to increase the risk of US-style claims in respect of UK DC pensions: as the old wisdom goes, “what happens in the US happens in the UK.”   

If you would like to discuss any of the issues discussed in this blog post, please get in touch with your usual Freshfields contact or any of the authors.