FCA IS RIGHT TO QUESTION CONSUMERS’ UNDERSTANDING OF STOCHASTIC MODELLING SAYS PRESTWOOD
The FCA has reacted to concerns regarding consumers’ ability to understand the potential outcomes of stochastic modelling*. Used alone, Prestwood shares a view that it serves only to confuse consumers. However, a picture paints a thousand words and transparent cashflow modelling helps clients visualise and appreciate the risks and rewards of DB transfers, consequently making advice justification easier.
As provider of leading cashflow modelling software Truth®, Prestwood Software is preparing a response to the FCA’s consultation paper on replacing TVA with an Appropriate Pension Transfer Analysis (APTA).
Julie Lord, CFPCM FCSI FPFS Director of Prestwood and CEO of Magenta FP stated:
“Although entirely transparent, I don’t believe that a stochastic analysis adds any clarity for the consumer. Telling the client there is a 96% probability that they can achieve a specific level of income in retirement is no substitute for ongoing planning and advice incorporating a lifelong cashflow model which takes into account all of the client’s lifestyle goals and objectives.
“The stochastic model has its place in helping to present a range of investment results for a pension fund which is why Prestwood’s Truth® has a built-in stochastic calculator – but then we need a more deterministic cashflow model to take account of all client circumstances. Stochastic modelling is not the new sexy.”
(Based on £400,000 invested in OMW Balanced Life fund, with 4% (£16,000/annum) annual withdrawals taken in arrears escalating at 2% per annum over 30 years)
The illustration above shows a 96.24% chance of having a minimum of £100k left in their pension fund after 30 years of retirement. However, it doesn’t show whether that is enough for the client to enjoy their desired retirement lifestyle.
In this case, modelling 4% annual withdrawals increasing by 2% pa could generate the chart above – this can be used to accurately display the difference between leaving funds in a DB scheme and transferring them. The chart is client specific, so it takes into account all client assets plus their goals and objectives – rather than solely looking at the pension fund.
Julie Lord continued:
“Pictures paint a thousand words. These simple images speak for themselves and are easy for consumers to understand. Prestwood’s powerful tools allow planners to illustrate the potential benefits of DB transfers to their clients, but also to highlight the potential risks. Our Capacity for Loss tool allows clients to visualise the impact of a market fall on their desired lifestyle in retirement, and how this could impact their lifelong cashflow picture.
“We believe that our modelling software can present complex financial information to consumers in simple terms and provide the evidence required by the FCA to satisfy its concerns about DB pension transfer suitability.”