How DC master trusts will lead the next wave of change

by Ben Lewis I Head of Investment Proposition - Mercer

With 26 million members and £122 billion in assets under management, master trusts are among the heavyweights of the defined contribution (DC) world. As they grow, so does the opportunity – and the responsibility – to innovate, particularly with investment solutions that enhance member outcomes while supporting their long-term needs

Looking to 2025, there are four key areas where innovation is set to blossom

Expanding into private markets

DC master trusts currently have limited exposure to private markets, but this could soon change, especially for members in the growth phase.

“Private assets have long investment horizons, which can transform members’ outcomes over the decades,” says Ben Lewis, Head of Investment Proposition at Mercer

“Master trusts won’t make enormous allocations straight off the bat, but we’ll likely hear more about plans in the next year, and it’ll be interesting to see which asset classes are selected for initial allocations ”

The primary challenge in this space is that of manager selection, as the disparity between the best and worst-performing private assets is stark.

“Picking the wrong fund managers can have a huge impact on returns,” says Lewis

“Selecting a manager with heritage in private markets is important, as is finding one with global reach, to find the best opportunities ”

Sharia-compliance

DC schemes typically lack Sharia-compliant investment options. These savers –representing four million UK Muslims – have historically been largely restricted to self-select Sharia equity funds.

“For most members, decisions are made for them through default investment strategies. Those seeking Sharia compliance are forced to make active decisions, without access to more defensive asset classes typically used in the approach to retirement,” says Lewis. This lack of accessible Sharia-compliant options can harm members’ savings, particularly if they optout altogether

Some master trusts are developing Sharia-compliant lifecycle strategies, allowing Muslim members to invest.

Such inclusivity could help close the pensions gap for UK Muslims, 30% of whom do not have a pension, often due to the lack of Sharia-compliant options, while supporting employers’ diversity, equity and inclusion goals.

The new era of sustainability

The “low-hanging fruit” of enhancing sustainability credentials have largely been taken, with attention turning to how master trusts will make progress in more complex areas.

Many master trusts have set net zero carbon emission targets for 2050, with some having already reached their 2030 interim goals.

“For those who are ahead of schedule,” Lewis says, “it’s time to tackle the next 20 years, where many more difficult challenges lie ”

Biodiversity is a key arena, going beyond an emissions focus to consider ecology more broadly. Setting meaningful targets is much harder than for carbon emissions reductions. "How do you compare a biodiversity loss in one regions to a gain in another?" asks Lewis.

“We may need to approach biodiversity in a far more localised way ”

Post-retirement

Auto-enrolment has more people participating in DC schemes, but these members face the challenge of making their savings last Although financial advice is available, only one-third of members receive it; the rest are largely on their own.

Master trusts are exploring ways to offer better guidance without crossing regulatory boundaries into personalised advice. Advancements in digital advice, such as Mercer’s tool, can help members make informed decisions.

Another approach is innovation in the products offered in the decumulation phase, for instance, pooling longevity or investment risk or creating new solutions that combine annuities and traditional investments

“It will be challenging to innovate without impinging on pension freedoms,” Lewis says “There are some compelloing ideas, but no silver bullet yet."

Important notices:

This does not constitute an offer or a solicitation of an offer to buy or sell securities, commodities and /or any other financial instruments or products or constitute a solicitation on behalf of any of the investment managers, their affiliates, products or strategies that Mercer may evaluate or recommend For the avoidance of doubt, this paper is not formal investment advice to allow any party to transact Additional advice will be required in advance of entering into any contract

The opinions expressed herein are the intellectual property of Mercer and are subject to change without notice.