By Alice Guy on April 14, 2022Reading Time: 4 minutes
Investment is a labour of love and saving for retirement takes determination, patience and dedication. Many of us slog away for years and years, stashing away money every single month. But the shocking truth is, some simple investing mistakes could rob you of a comfortable retirement income.
95% of us are investing in our workplace default fund
Default funds often perform poorly
Consider a separate private pension for top ups
One of the most serious investing mistakes a staggering 95% of us are making, is investing in the default fund in our workplace pension scheme.
When you set up your workplace pension, your scheme provider will automatically place you in the default fund. It’s designed to be a one size fits all fund that suits the average investor.
But why is investing in the default fund such a problem? Here are three reasons.
Most default funds are super cautious multi-asset funds or balanced managed funds. They’re invested 60% in equities, with the remainder spread between bonds, property and cash. But this type of fund may not be suitable for all investors and the performance of bonds and cash can be sluggish.
Being too cautious could have a massive impact on your long term wealth. If you’re a younger investor, you have a long time horizon for your investment to grow then you can afford to wait for the stock market to bounce back from a crash and shouldn’t be scared of a bit of volatility.
If you invested £500 per month for 40 years in an 100% equity fund, you could end up with a pot worth £995,745 (based on 7% growth and 1% fees). In contrast, investing in a multi asset fund could leave you limping behind with investment wealth of only £411,709 (based on 3.5% growth and 1% fees).
Secondly, default funds are often a fee rip off. For example, the Nest pension scheme, used for many public sector employees, charges a whopping 2.1% annual management charges and fees. That means you’ll pay £2,100 fees per year on a pension pot of £100,000. Over 40 years, you could be paying an eye watering £135,619 in fees. (based on investing £500 per month).
In contrast, low cost pension schemes and funds charge as little as 0.47% in total fees and you should aim for total management and fund fees of under 0.75%.
Instead of investing in an expensive default fund, you could pick a mixture of low cost ETFs, designed to track a whole share index. You can tailor your portfolio to get the same exposure to stocks and bonds as a multi asset fund for a fraction of the price.
For example, the Vanguard FTSE All-world UCITS ETF charges 0.22% and tracks performance of the FTSE All-World Index. The iShares Global Govt Bond UCITS ETF charges 0.2% and aims to reflect the return of the FTSE Group-of-Seven (G7) Government Bond Index.
The glossy investing brochures hide many underperforming funds. And the recent Neil Woodford scandal shows that even well respected fund managers can make huge investing mistakes. His flagship UK Equity Income Fund had £10bn invested at its peak. But a series of disastrous investing decisions and poor performance sparked a run on the fund. The administrator pulled the plug in October 2019 and suspended the fund, and many investors suffered huge losses.
It’s a familiar story. Look under the bonnet and you’ll see that many balanced managed funds have lacklustre performance that lags far behind the share index they’re supposed to be tracking. For example, the Clerical Medical Balanced Pension has grown only 19.6% during the past 5 years, falling well short of the overall investment index performance of 28.2%.
But it’s not all doom and gloom. Having a workplace pension scheme is actually a great opportunity to grow some serious investment wealth. Taking advantage of your free employer’s contributions and tax relief will make a big difference to your retirement wealth.
Here are 4 tips to make the most of your workplace pension scheme and max out your pension wealth, whatever your circumstances.
Make sure you invest whatever you need to get your employer’s top contributions. If you earn £40,000 and your employer contributes 3%, their contributions alone could add up to £193,731 investment wealth over 40 years (based on 7% growth and 1% fees).
Instead of sitting back and assuming your scheme provider knows best, take and active role in choosing your funds. Have a think about your attitude to risk, the length of your investing horizon and the level of fees before picking a suitable investment options.
If you’re nearing retirement you may decide to pick a range of ETFs or index trackers to mimic a multi asset fund and lower your investing downside risk.
Unfortunately, some workplace pension schemes don’t have much choice. You could be stuck paying high fees and with poor investment performance.
It’s still usually worth paying into your workplace scheme to take advantage of your employer’s free contributions.
However, it’s worth considering a cheaper option if you decide to top up your workplace pension. Opening a separate private pension like a SIPP means you could be paying much lower fees than your workplace pension scheme. And a small percentage of fees makes a huge difference to your investment wealth over time.
The average employee works for at least 6 different employers during their lifetime. But many people never get round to consolidating their pension pots. This means they could have several old pension pots and be putting up with poor investment performance and expensive fees.
Consolidating your pensions means you can keep a closer eye on performance and search around for competitive fees. Some platforms even charge lower fees for bigger pension pots so you’ll get a bonus for consolidating your funds.
Workplace pensions can help supercharge your retirement savings. You’ll get tax relief and employer’s contributions to give your investments an immediate boost.
But it’s important to take ownership of your workplace pension scheme. Take the bull by the horns, do your research, kick the default fund into touch, and pick a low cost fund that’s suitable for you.