© NEST Corporation 2013 What savers want and what this means for CDC Paul Cox NEST University of Birmingham 21 January

© NEST Corporation If sharing risk is able to smooth some high and lows in investment volatility, an important question is do consumers value this? Aim is to playback results from consumer research studies that speak to consumer demand for lower investment volatility. Aim is also to suggest where CDC might focus. No separation of research into the building-up of retirement savings and drawing a retirement income from these savings. Introduction

© NEST Corporation Just Retirement (2014) What people say they want 3 in 4 generally unwilling to take risk 1 in 4 willing to take some risk 2 in 3 unwilling to take risk 1 in 3 willing to take a small risk Ignition House (2014) Opinion Leader(2010) – mid career 1 in 2 willing to take some risk 1 in 3 unwilling to take risk 1 in 2 unwilling to take risk 1 in 3 willing to take some risk Opinion Leader(2010) – nearer retirement

© NEST Corporation What people mean they want Articulation to consumerInterpretation by consumer High chance of a loss with greatest chance of biggest gain Low chance of loss with low chance of small gain Some chance of loss with some chance of modest gain High chance of a loss with greatest chance of biggest gain Low chance of loss with low chance of small gain Lowish chance of loss with some chance of modest gain What research participants often mean when they say they are willing to take some risk Source: PADA Attitudes to loss same different

© NEST Corporation Behaviour during the 2008 financial crisis What people actually did Just under 1 in 2 individuals contributing to DC schemes took some form of action, of which …… 1 in 4 switched funds 1 in 7 stopped all pension contributions …and 1 in 12 decreased contributions Source: NEST and Pension DCisions

© NEST Corporation Overall, research participants are telling us about a preference for capital protected investments, but also that they’ve little understanding of what this type of investment strategy is, other than cash. What most people appear to want Capital protected investment Do not want to live with the worry 29% Returns not deemed worth the risk 29% Prefer high interest savings 14% Where very risk averse, the main reasons respondents give for this are Do not trust providers with my money 14% Source: Just Retirement

© NEST Corporation Relative importance of capital protection Ordering based on how good the £ outcome could be, how good the protection is, and how low is the cost – as star ratings Ordering based only on how good the £ outcome could be – illustrated as a probability What features are most desirable in a DC retirement product? Rank of most valued (1) to least valued (4) Typical DC Balanced DC Nominal guarantee (CPPI) Pension fund type Ordering based on how good the £ outcome could be, how good the protection is, and how low is the cost - as a probability Cash Source: NEST (row 1) Instinct - 40% of respondents favoured the product with the lowest risk attached. (row 2) Trade off – 1 st a desire to protect money, 2 nd to achieve a good outcome. (row 3) after more time & information – Balanced DC not significantly better than cash.

© NEST Corporation Research has highlighted a behavioural risk that scheme members may behave in a way contrary to what would be considered their best interest. We’ve also identified a real risk that investment volatility and loss can disrupt inertia. Research has focused more on effect directions than on effect sizes. Research has focused more on attitudes and emotions than on behaviour. Risk links to lack of control, and not feeling in control influences the perception of situation. When there’s a lack of control people tend to interpret uncertainty associated with the situation negatively. Some people catastrophise investment uncertainty. Limbic system of our brain governs emotions and behaviour – it doesn’t rationalise risk. Neocortex is the newer part of our brain that serves higher mental functions but a significant amount of explanation is required to get the concept of risk into it. The level of explanation required is not readily scaleable. Innovations in product design could aim for better balance between risk, certainty, & return. Summary

© NEST Corporation It’s not all or not at all - can embrace some assets, some age groups, some time periods, with clearly identifiable goals and types of risks to share. Helpful if it can raise level of certainty - Research participants value certainty at levels < 100%. Seems that < 100% can help with the ‘more or less what will I get’ question. Future research could focus on what’s the best level. We’ve examples of shared risks in accumulation and decumulation, but helpful would be more concrete examples to illustrate where, when and how within the UK environment – without that there’s little comparative appraisal for trustees. Example: sharing some of the risk of the cyclical sector CDC

© NEST Corporation Sharing some of the risk of the cyclical sector Extra volatility of cyclical sector