Around 70 per cent of the total expected pensions provided by collective defined contribution (CDC) schemes is set to be driven by investment strategy, with approximately 30 per cent coming from contributions, analysis from LCP has estimated.

The consultancy said that CDC schemes’ ability to remain invested in growth assets for longer than other pension arrangements was the main factor in delivering the stronger expected outcomes often attributed to CDC schemes.

It argued that the findings emphasised that investment strategy should be considered sooner rather than later.

The analysis looked at an example saver joining at age 25 and living to 90 in a CDC scheme, which would result in around 60 years of exposure to growth assets.

This was around double the exposure than in a DC scheme approach with annuity purchase and 15 years longer than DC with drawdown.

According to LCP, CDC pensions could deliver approximately 15-25 per cent higher income in retirement than DC with drawdown.

However, the consultancy noted that these outcomes depended on a well-designed investment strategy, effective risk management, and robust cashflow planning.

It highlighted the importance of taking a granular approach to how investment arrangements could work as soon as possible.

Three primary considerations were identified, including that small differences in returns multiply over time.

LCP warned that using broad and high-level assumptions may not give the full picture due to compounding interest, and being more specific on future investment arrangements and using that within modelling would provide a better proof of concept.

Secondly, it argued that inflation linkage would be key, as how explicitly inflation-linked assets were bought would influence the structure of CDC schemes and expected outcomes, risk of changes to benefits, and communications to members.

Finally, the interaction of investments and pension promises were expected to affect intergenerational fairness.

The consistency of investment returns with the terms for converting contributions into pensions, and pension increases, would have implications for the way in which risk and return were shared between generations, LCP added.

The consultancy also highlighted that reputation, resourcing, and cost management would be key in establishing the feasibility of a CDC scheme launch, with all three affected by investment strategy choices.

“Our analysis shows just how important getting the investment strategy right is for a CDC scheme,” said LCP partner, Mary Spencer.

“Well-designed investment strategies will be central to determining which CDC schemes deliver the best outcomes for their members.”

LCP principal, Andrew Linz, added: “CDC’s ability to remain invested in growth assets is a key driver of strong expected outcomes, but this is not automatic.

“Outcomes will depend on the quality of investment strategy design; how risks are managed and communicated; and how liquidity is managed over time.”

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