Investment Choices With Nest

Further details have been issued of the National Employment Savings Trust (NEST) due to be launched in October 2012. The aim is to ensure that by 2016, every employer either has a qualifying scheme in place or enrols employees in NEST.Grimsby IFA Paul Duckworth analyses the recently released information:

There is no doubt that NEST is a radical approach to pensions and, while it has not met with universal acclaim, given the restraints the government faces it seems a reasonable way of achieving the stated aim.

It is obvious from the latest details that NEST is going to be the default scheme. Bigger firms will almost certainly have put in their own private pension scheme that will exempt them from using NEST.

It is, therefore, likely that it will be used mainly by small employers and those with people on less than median earnings or working part-time.

As in any scheme, investment issues are always going to be a serious consideration - ultimately, what you get out at the end is reliant on what goes in and how investments perform.

Within NEST, innovative steps have been taken to address the investment needs of different age groups.

The main element is that, unless the employee makes a specific choice, the money will go into a dated fund coinciding with state pension age so that if someone joins at 22 and the state pension age is by then 70, contributions go into a fund that aims to mature in his or her 70th year.

This means there will be a profusion of funds - as many as 45 - as joining age is from 22 upwards. However, this is a definite advantage in that it will be possible to pinpoint a specific investment philosophy that aims at the particular retirement year.For instance, a normal balanced managed fund that has the usual mix of shares, property, gilts and corporate bonds is never going to be appropriate for someone a couple of years from retirement. On the other hand, it may not contain enough risk for someone with 40 years to go.

A scheme driven by joining age and the state pension age is quite innovative and also addresses the problem that could arise with younger people who join. Often they will be low paid or working part time and in that demographic they can't really afford to lose any money. Also, the results of research show that younger people are more sensitive to early losses, possibly since they do not have any experience of investments.

More experienced investors are aware that what goes down is most likely to come back up again by the time it is needed but many first time investors, getting an early statement showing loss, would immediately pull out of scheme.

NEST ensures that funds for younger joiners will have a five to ten year phase that will carry only moderate risk - the Foundation Phase. This works on the principle that it is better for them to make a small amount of profit than to be scared out of the scheme by making early loss.

Funds then go into the Growth Phase, unless the holder has only a couple of years to retirement in which case they would go into a low risk fund.

As the maturity date approaches, the money switches into the Consolidation Phase where the risk is slowly reduced as the due date gets closer.

As I understand it, those joining in their 30s and 40s may bypass the Foundation Phase and go straight to Growth Phase as they are likely to have experience and appreciate that investments fluctuate. Also, they have got fewer years to retirement so need good growth from start.

I would imagine that the majority of employees will go into the default fund - it could be a relief that they do not have to choose their own investments. However, for those who would like to make their own choice there is a NEST High Risk Fund which is a deliberately high risk/potential high return fund, a NEST Low Risk Fund, a Sharia fund, an Ethical Fund and a Pre-retirement fund.

In the perfect world, younger investors should maybe be carrying a larger risk early on but these are going to be non-advised funds, with the employer specifically not allowed to give advice so, without an advisor to act as a buffer between the client and investment, the Foundation Phase is likely to be the most sensible option.

The scheme is fundamental; it's not ideal although I think it is quite adequate when you look at the circumstances the government are trying to accommodate - and it could transform the pensions landscape.