DB/DC - not just another rock band

Visitors think London is a very glamorous place to live in with trips to Buckingham Palace and afternoon tea. The reality of living in London is slightly grittier, exemplified by our double decker buses.

The most dangerous time on a London bus is not 3:30 AM on a cold and stormy night. I’ve learnt through  experience that the most awful time on a bus is on a weekday afternoon at 3:30 PM. That’s when the teenagers are on their way home from school!

Any self-respecting older Londoner knows not to go up to the upper deck of a bus while the teens are in charge. Even if there are lots of seats… just don’t. Taking over with their music,  you can’t tell them to turn it down or behave - you will be verbally assaulted or worse. It’s intergenerational warfare at its fiercest.

In investing there is a subtle but significant intergenerational conflict going on with DB/DC - it’s changing the way we need to think about investing for ourselves.

DB = Defined Benefit

This was the traditional pension plan -- you put in a certain amount a month and the pension provider guaranteed you a defined amount, typically as a percentage of your final salary as your pension. You received this no matter how the economy was doing and what the investment returns were over the pensions lifetime. The provider of the pension is meant to fund you if the returns fall short.

DC = Defined Contribution

The world is moving to a defined contribution system, where you are expected to put in a certain amount each month. When you retire you’ll be given what the pension fund can generate in investment returns. If the investments chosen do well, you’ll have a nice retirement, if they bomb, well then, you’re on your own.

So why do I choose to highlight this concept on yet another rainy London Sunday? Don’t worry, I’m avoiding both buses and teenagers today.

  • Jargon busting -- if you don’t work in the world of finance, there’s a good chance this is the first time you’ve heard of the good ole DB/DC rock band.

  • The top 19 richest countries in the world have $35 trillion in pension funds, roughly split half and half over DB/ DC*. That’s a large part of the market being influenced by these dynamics. We are quickly moving to a DC world.

  • As more people draw on their DB pensions and live longer the market will have to generate these returns. The onus is on the pension providers who might choose to take more risk to generate the needed returns.

  • Conversely for those of us on DC, the burden is on us to pay more attention to pensions and how they are chosen. The risk lies with us.

  • Whether you have a pension or not, or you have other assets (rental properties, other investments) to fund you, the shift from DB to DC means that in general we will all have to take more responsibility for educating ourselves on investing and learn how to make decisions that previously we could have delegated.

Thanks,

Mallika

*https://www.willistowerswatson.com/-/media/.../Global-Pensions-Asset-Study-2016.pdf

Image Source: https://fontmeme.com/ac-dc-font/