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How to pick a pension fund

Understanding your pension


Pension funds are a tricky topic area. There seems like there are so many different funds to choose from. Sometimes it seems like it's impossible to know where to start. Hopefully the following will be a useful guide to those in a similar situation:

I have written previously on the need for explorers joining a Company pension scheme to get in touch with the pension provider and ensure that they aren't invested in the default fund.

One of the difficulties in sorting out which pension fund to invest in is that there are literally thousands of alternatives. Fortunately this is cut down based on your provider but this could still mean sifting through several hundred.

Once you are aware of all of the funds that your pension provider deals with then you can ask them directly which funds you are able to invest in based on the scheme that your employer negotiated. This is because it is likely that your employer will have negotiated with the pension fund several funds at a discounted rate. You should look to take advantage of the discounted charges.

Passive or active funds?


Let's say that by this stage there are 20 different pension funds available to you. 

Actively managed funds means that there is a fund manager looking after the fund. These are paid professionals and as such actively managed funds will almost always cost more. Realistically a pension is a very long term investment vehicle. Hence the size of the charges as a percentage of the fund can have a dramatic effect on the final size of the pension pot. Therefore you need to search for the term "passive fund" in the fact sheet/ name of the fund. 

Passive funds are designed to match the movement in a broad index. Hence there isn't a particular fund manager in charge who requires fees. This will likely result in a cheaper annual management charge.

Once you've identified all of the passive funds you need to start to look in detail at the fund fact sheet. This sheet tells you what the annual management charge will be, what the fund invests in or which index it tracks, and how the fund has performed in the past.

How much should I look to pay in a pension fund?


As I mentioned the size of the annual management charge is a key determinant in te long term size of your pension pot. I would argue that you don't want to be paying any more than 0.5% (half a percent) per year in order to be invested in the fund. 

Another charge to watch out for is the investment fee. Often times funds will charge a percentage of the total amount invested in order to enter the fund. Ideally this should be zero. Sometimes this can be as high as 5%. Do not touch these funds! You really shouldn't have to pay to invest in a fund.

What index should I be tracking?


The specific index isn't the most important consideration. Most economies and markets will grow given 30-40 years to do so. Your main focus should be to minimise the charges. Pick an index that tracks a market that you consider less risky over the long term but is also likely to grow. The U.K. stock market is a good shout. Emerging markets are going to be slightly riskier but you may feel that they're a good bet over te long term.

What fund performance should I be looking for?


"The past performance is no guide to future performance". You should be conscious that performance in the past is not a reliable predictor of the future. I'm not a big believer in chartism - the ability to predict future index movements based on the past.

However, I think it's important that your fund has been established for a while (at least 10 years) and has demonstrated that the market has grown over that period. Aim for an average of at least 5% growth since the inception of the fund.

Hopefully you'll find the advice useful and trust me that long term the small amount of effort today will have been worth it.

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