Common European platform not likely soon

A call by the European Commission to introduce a defined contribution standard for the European Union similar to 401(k) plans is likely to face a long uphill battle.

Such a battle could hamper money managers' efforts to expand in Europe's fast-growing DC market.

The defined contribution industry in Europe grew 45% to e1.47 trillion ($1.95 trillion) in the five years ended Dec. 31, according to a report published by Cerulli Associates in July. And Cerulli estimates it will increase about 70% — to e2.5 trillion — in the next five years, said Shiv Taneja, managing director and head of Cerulli's international research practice.

“We don't expect exponential growth that's projected in a straight line,” Mr. Taneja added. “We think it will be at a more erratic pace that's slow in the next couple of years (as governments take time to implement pension reforms) and then rising more rapidly.”

The corporate DC market “sits on the threshold of substantial growth” because of a continued shift from defined benefit plans, according to the report.

Also, Europe's recent sovereign debt crisis has served as a further wake-up call for governments to reduce state pension obligations, eventually resulting in reforms that require or encourage DC-type savings, sources said.

In the U.K, for example, the government-backed National Employment Savings Trust scheduled to be launched in 2012 is expected to gather as much as £200 billion ($320 billion) in DC assets by 2040.

“We're still in the early stages” of DC development in Europe, said Andrew Warwick-Thompson, London-based principal and strategy leader in the benefits practice at Hewitt Associates Inc.

“Although a legal framework (known as the Institutions for Occupational Retirement Provision Directive) has been established, the difficulty is coming up with some kind of a pan-European unified approach to DC investment and a common benefit structure.”

Considerable barriers to cross-border DC activity “prevent the full realization of efficiency gains arising from (economies of scale) and competition, thereby raising the cost of pensions and restricting consumer choice,” according to a discussion paper published by the European Commission in July.

“The fragmented and incomplete character of the present European (IORP) framework may no longer be sufficient,” according to the paper.

Ashish Kapur, U.K. defined contribution specialist at SEI Investments Co. in London, said efforts by the European Commission to harmonize DC standards will prove difficult to achieve in the short to medium term. “There's no point in bringing pension laws in line (among different member states) when you still have different tax laws, different retirement ages and so on,” Mr. Kapur said.

For example, U.K. DC participants generally are allowed many different investment options compared with such countries as Switzerland and Germany. In those countries, the role of asset protection or guarantees play a bigger role, said Alexander Boersch, senior pension analyst at Allianz Global Investors AG, Munich.

“DC plans in Europe are so different from each other that it's really hard to have one standard for all the different countries,” Mr. Boersch said. “So managers usually have to adjust investment strategies to plan designs for each country.”

Money managers want more consistencies across the European DC landscape to help them gather assets more efficiently, as they can in the U.S. and Australia. But varying tax, labor and pension regulations among European nations have led to substantial differences in DC plans.

These differences mean that asset managers can't design one DC product that will work everywhere in Europe, driving up costs sometimes beyond profitability. The result is that retail investors traditionally have turned to insurance companies. With some exceptions — such as BlackRock Inc. in the U.K. — many managers that have succeeded in the U.S. and Australian DC markets have not made the same kind of impact in Europe, according to academics, consultants and managers.

Managers have been gaining some defined contribution plan assets, for example, through open-architecture platforms. But in Europe, insurance companies and increasingly banks largely control the DC distribution channels, sources said.

Mr. Kapur of SEI added: “What's needed right now is to increase the DC market itself. Only then should we worry about whether asset managers or insurers dominate.”

The European Fund and Asset Management Association, a Brussels-based industry organization, earlier this year proposed in a paper that regulators should introduce “a simple wrapper” with consistent standards across Europe. According to the paper, the lack of unified standards is “a critical barrier to enabling EU citizens to save more for their retirement.”

The EFAMA's proposed “officially certified European retirement plan” also would create “a level playing field for retirement plan providers across Europe,” according to the paper.

While a one-size-fits-all pan-European DC investment vehicle is “many many years away,” according to Mr. Warwick-Thompson of Hewitt, the obstacles are not insurmountable.

Managers say that mutual funds set up under the Undertakings for Collective Investment in Transferable Securities rules could play a larger role in European DC plans. (UCITS coordinate the distribution and management of unit trusts among countries within the European Union.) However, one needed improvement is a Europeanwide classification system that takes into account factors such as risk/return profiles of investment strategies and fund type labeling that depends on the portfolio holdings.

More cross-border asset pooling vehicles also are emerging, helping to bring economies of scale to Europe's DC market, said David Millen, director of client relationships at Russell Investments in London. In the latest example, the Dutch parliament in July adopted the Act on the Introduction of Contributory Pension Institution. The Premium Pension Institution is a cross-border DC asset pooling vehicle that has potential to be used in a multinational corporate DC plan. (The Dutch senate is expected to approve the proposal in the fourth quarter.)

However, key to any DC manager's success in Europe is “getting into the default fund,” said Peter Robertson, head of retail investment at Vanguard Group Inc. in London. The default option is one that is automatically selected for a DC plan participant unless the individual specifies otherwise. Under the Swedish national DC pension system, for example, between 85% and 90% of all participants are enrolled in the default fund, sources said.

Although Vanguard is one of the biggest players in the U.S. defined contribution market — with global assets of $1.36 trillion as of June 30 — its European DC business was just launched last year in the U.K.

The firm has since gathered about $1 billion in retail assets, mostly in U.K. equity and global ex-U.K. equity strategies.

Vanguard, which has had an institutional business in Europe for 12 years, may introduce a target-date fund for the U.K. retail market.

“There are many regulatory differences, so we can't just swap the U.S. (strategy) with U.K. (assets), and away we go,” Mr. Robertson said. “It takes time.”