Now is the time to invest in a pension

Published on Friday 27 March 2009 20:00

FOR one group of savers and investors, the current financial maelstrom offers real opportunity despite the hammering most have taken in the last 18 months.

Young savers have the chance to take advantage of the depressed stock market, and for those prepared to put money into a pension and take a reasonably adventurous approach, there are significant rewards on offer.

For the majority of people under 40, pensions are not a priority. There is debt to clear, houses to buy and families to support.

However, for those who have money to save, and particularly those with access to an employer's defined-contribution (DC) pension scheme, getting involved now could make a big difference to what is available when they come to retire.

In these schemes employers will pay a monthly amount on behalf of their members.

The level of contribution will differ from one employer to the next and may rely on staff making contributions of their own.

Julian Webb, head of UK DC pensions at Fidelity International, said: "It helps to remember that company pensions usually include free money."

He continued: "With the average employer contributing 6.3 per cent of gross salary to a defined-contribution scheme, anyone on the average wage of 26,020 could get an extra 136 a month."

Research carried out by Fidelity International found that early pension savers stole a serious march on their peers. Indeed it claimed a 30-year-old could expect a saving of 200 a month to blossom into a total pension fund of 417,000 by the time they hit 65.

If that same person waited for three years and started saving in 2012, their defined contribution pension fund would be a significantly less rosy 332,000, a difference of 85,000.

For older savers the collapse of the equity markets has created a dent in their pension fund that many are going to find hard to repair.

However, for their younger counterparts the depressed markets offer the chance to buy into stocks when they are cheap and take advantage of the rises that are expected in the coming years.

Despite the depressing financial headlines screaming out from the news stands, Alan Steel, managing director at Alan Steel Asset Management, believes now is a good time to enter the stock market.

"Either this is the first time the world is going to actually come to an end or there will be a rally." His money is firmly on the latter.

This is a view backed up by Fidelity International. It said that where average returns over a ten-year period have been negative, the following decade has always delivered positive returns.

In the ten years up to and including 2008, investors saw a return of -1.5 per cent, according to Fidelity.

If history is repeated, then the following ten years should deliver a positive return. Indeed, the research showed that the decade following each of the other 16 negative decades dating back to 1899 were followed by ten-year periods delivering an average of 10.8 per cent annually.

Webb commented: "This analysis shows not only that equities have under-performed for a ten-year period before but also that the decade immediately afterwards is when we see many instances of handsome returns."

Younger savers, therefore, not only have time on their side, but also the opportunity to buy into a cheap market.

However, to take advantage of that time to make the most of employer contributions to their pension, it is important to invest in funds that will deliver decent returns. For example, a fund returning 4.5 per cent will double the initial investment every 16 years.

Over 32 years such a fund would turn 5,000 into 20,000. By contrast a fund returning 9 per cent would turn that same initial investment into a total of 80,000 over the same period.

Given the huge difference that good returns make, Steel urged investors to look beyond the default investments offered by pension providers and to seek out the very best fund managers in the market.

Most pension providers will offer investors access to not only their own range of funds, but also those run by other companies and taking the time to invest in those with the best track record is well worth the effort.

Ian Naismith, head of pensions market development at Scottish Widows, agreed that younger investors have a significant opportunity and that taking a certain amount of risk will pay dividends in the initial years of their pension investment.

"For young people, the biggest danger is investing too cautiously," said Naismith.

Indeed he said Scottish Widows has even taken to prescribing more adventurous default funds for its younger investors to help them avoid this trap.

However, despite the advantages of early pension saving and the opportunities thrown up by deflated equity prices, the ongoing problem is getting younger people to invest in a pension at all.