No time to waste: why the scale pathways should open now to achieve orderly consolidation

While a group of DC providers sit comfortably with main scale default arrangements holding assets in excess of £25 billion already, few providers have their assets all in one scheme (either master trust or group personal pension schemes (GPPs)) and there is a significant proportion of the market currently below the £25 billion threshold. 

The race for assets

For those providers with main scale default arrangements below £25 billion, the race for assets is on. But market dynamics are already working against acquisitive providers.

Employee Benefit Consultants (EBCs) are increasingly reluctant to recommend sub-scale providers to their employer clients in case these providers are unable to reach scale or do not get approved by the regulators. With fewer opportunities in the market, providers are starting to take on assets which may be more complex to administer or with data issues, increasing the risk of disorderly transition and administrative/operational strain.

Uncertain pathways

There is also significant legislative uncertainty on the scale pathways set out in the PSB which is impacting providers’ ability and appetite to: invest in their businesses; implement their growth plans; and plan for the future with confidence.

If a master trust or GPP is sub-scale, they can apply for approval through the transition pathway or new entrant pathway.

Under the transition pathway, the relevant regulator (FCA or TPR) is able to approve a main scale default arrangement so long as it has assets of £10 billion. While regulations may require trustees/providers to produce credible plans for increasing scale and making progress to the £25 billion threshold, the PSB does not include timescales for reaching £25 billion once a scheme/provider is on the transition pathway. Whereas the Final Report on the Pensions Investment Review indicated that trustees/providers must provide the regulator with a credible plan to have £25 billion in AUM by 2035, the PSB is silent.    

There is also a new entrant pathway. The relevant regulator may approve a main scale default arrangement if it determines that the scheme in question “demonstrates strong potential for growth” and an “ability to innovate”. Regulations are likely to expand on the meaning of these terms but until we see the draft regulations, it is unclear whether an existing scheme/provider (which is sub-scale and unlikely to reach the £10 billion threshold for transition pathway relief) could apply to the new entrant pathway citing (for example) an innovative platform or investment strategy, even if it has been operating for several years.

Common investment strategy

For providers operating multiple schemes and products, a key question is how to structure their main scale default arrangements. This is particularly relevant for those providers who don’t have a scheme-specific default arrangement of £25 billion but have sufficient assets across their workplace book of business.

The PSB allows a master trust to combine with one or more GPPs to create a main scale default arrangement so long as they are “provided by the same provider” and assets are “managed under a common investment strategy”. Conversely, GPPs can combine assets with a single master trust provided by the same provider.

While regulations will provide more detail about the meaning of “common investment strategy”, providers also need clarity on how to determine which schemes / arrangements are provided by the same provider. If a provider of a GPP has a white labelled section of a master trust which it offers to employers as part of its proposition, for example, we could see a good argument for saying that the two schemes are provided by the same provider so long as they have a common investment strategy. But as currently stands, we do not have clarity on how the regulators would treat this type of scenario.

Open the pathways in 2026?

Unhelpfully, the PSB says that regulations in respect of the scale requirements will not come into force before 1 January 2030. In our view, this is far too late.

Without regulations providing critical details such as:

(i) what constitutes a common investment strategy

(ii) how a main scale default arrangement could be provided by the same provider

(iii) how schemes/providers apply for transition and new entrant pathways relief

(iv) what the processes and procedures for pathway application and approval may look like

(v) what credible plans for reaching scale may look like

(v) what constitutes the ability to innovate and strong potential for growth for the new entrant pathway

(vi) what happens if a main scale default arrangement drops below £25 billion after authorisation

the DC landscape continues in a state of limbo and uncertainty.

We urge the Government to enable regulations for the scale requirements to be laid as soon as the PSB receives royal assent – this is the only way to support providers plan for the future, ensure future-proofed default arrangements (currently, many providers are changing their default investment strategies to include private markets allocations) and to ensure efficient and orderly market consolidation, leading to good member outcomes.

In the interim period, we think the regulators can and should play a critical role in working with schemes/providers to get “pathway ready”. Similar to the approval regime for DB superfunds or the readiness review for DC master trust authorisation, we would welcome clear principles-based regulatory guidance for schemes/providers on what the transition pathway will look like, and how to prepare.

In our view, TPR’s move to a prudential style of regulation and segmented approach to supervision provides an ideal framework to facilitate this form of interim regime.