The importance of investments in CDC
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Designing CDC investment strategies around member outcomes
From history to design…
Chapter 2 showed that CDC outcomes depend heavily on economic regimes. CDC changes the investment problem - outcomes are not fixed in advance as in DB, nor determined solely by individual experience as in DC. Investment returns are shared collectively and feed through into pensions over time. So, the next question for Chapter 3 is more practical: How should we design investment strategies that deliver good outcomes across those regimes?
How do we assess both “risk” and “success” for CDC?
Building portfolios that deliver pensions
If CDC is built to operate across different market regimes, its investment strategy must be designed to perform across them.
Chapter 3: Designing CDC investment strategies around member outcomes
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What does “risk” really mean in CDC?
The CDC transmission mechanism – from investment returns to pensions
How investment outcomes affect pensions
Understanding how CDC schemes translate portfolio performance into member outcomes is central to investment strategy design.
When investment outcomes are stronger or weaker than expected, pensions adjust over time to keep the scheme balanced.
Stage one – adjust future pension increases.
In our simple example, pension increase promised and awarded to members can vary between “No Increases” and “CPI+2%”.
If this is not enough:
Stage two – Further pension reductions are applied if required
The result is that investment gains and losses are reflected gradually through member outcomes.
From member outcomes to portfolio construction
Different CDC schemes can tolerate different risks
The level of investment risk a CDC scheme can sustain depends not only on the portfolio, but also on the profile of its membership.
Younger schemes can typically absorb larger short-term investment shocks because they have longer to recover. More mature schemes may place greater emphasis on pension stability and downside protection.
The chart illustrates how risk capacity can vary across different CDC memberships. These differences in risk capacity mean that the investment strategy that delivers the most attractive outcomes can vary between CDC schemes.
Why this distinction matters
Traditional investment frameworks often start with the portfolio and assume member outcomes will follow.
CDC works the other way around. It starts by defining the member outcomes the scheme is trying to support and then asks what portfolio behaviour is required to deliver them.
The required portfolio behaviour – and ultimately portfolio construction – should therefore be driven by:
- downside pension outcomes;
- recovery risk;
- inflation resilience; and
- the sustainability of pensions through time.
Optimising portfolios without reference to member outcomes risks solving the wrong problem.
Member outcomes
- Expected pensions
- Probability of cuts
- Downside outcomes
Required portfolio behaviour
- Long-term growth
- Recovery after stress
- Inflation resilience
Portfolio construction
- Asset allocation
- Diversification
- Implementation
A CDC investment strategy scorecard
A different way to assess CDC investment strategies
Traditional investment metrics alone do not fully capture CDC member experience.
There is no single best CDC portfolio. The preferred strategy depends on how a scheme prioritises adequacy, stability, inflation resilience and fairness across cohorts and how well the strategy ties in with scheme objectives and benefit design.
Illustrative assessment only. Relative rankings will depend on scheme design, demographics and market assumptions. For illustration, we compare three stylised approaches ranging from a growth-oriented strategy focused on maximising expected pensions to a stability-oriented strategy prioritising pension stability.
Designing portfolios for CDC
The charts illustrate two of the key trade-offs in CDC portfolio design. The first chart illustrates how investment strategy affects both expected and downside pension outcomes for members joining the scheme at different ages.
For younger and mid-career members, taking too little investment risk can result in both lower expected pensions and weaker downside outcomes. At the other extreme, higher-risk strategies may improve expected pensions but increase instability and the likelihood of pension reductions.
The preferred balance depends on how outcomes are weighted across cohorts. Younger members benefit more from long-term growth and have longer to recover from market shocks, while members closer to retirement typically place greater value on pension stability.
Our modelling highlights that CDC investment strategy is therefore less about identifying a single "optimal" portfolio and more about balancing pension adequacy and pension stability across the membership as a whole.
The second chart shows that increasing investment risk can increase both the frequency and severity of pension cuts. This provides a direct measure of how investment decisions translate into member outcomes.
The previous section considered how schemes balance pension adequacy and pension stability. The next challenge is implementation: how should that risk be delivered through the portfolio?
Chapter 2 showed that the same investment strategy can produce very different outcomes depending on the economic environment. Strong nominal growth, inflation shocks, prolonged drawdowns and slow recoveries all affect CDC differently. This means long-term expected return is only part of the picture.
CDC portfolios must therefore be designed to remain resilient across inflationary regimes, weak real growth environments and prolonged recovery periods. The objective is not simply to maximise expected return, but to deliver sustainable pension outcomes across a wide range of future economic conditions.
In CDC, sequencing risk does not disappear – it becomes a central portfolio construction challenge.
Traditional diversification frameworks often focus on reducing short-term volatility. CDC requires something broader: resilience to inflation shocks, market stress and changing economic regimes.
A key observation is that asset relationships can change materially across time horizons. Assets that appear weak inflation hedges over short periods may still support strong real pension outcomes over decades.
The chart illustrates this principle for one example CDC portfolio.
Having determined the desired balance between pension adequacy and pension stability, portfolio construction should focus on delivering those outcomes across a wide range of future environments. CDC portfolios are therefore likely to place greater emphasis on:
- long-term growth assets
- diversification across economic regimes
- resilience to inflation shocks
- and recovery dynamics following market stress.
The objective is not simply to maximise return but to generate sustainable real pensions through a wide range of future economic and inflation environments.
The key insight
Higher expected pensions come from maintaining exposure to long-term growth assets for longer. But that requires portfolios that can withstand inflation shocks, market stress and changing economic environments without permanently damaging member outcomes.
The appropriate balance between pension adequacy and pension stability will vary between schemes depending on their membership profile and objectives. There is no universally optimal CDC investment strategy.
CDC investment strategy is therefore not about avoiding risk. It is about deciding how investment risk is translated into pension outcomes over time.
The objective is not simply to maximise expected return or minimise volatility. It is to deliver sustainable pensions across a wide range of economic environments, while balancing pension adequacy and pension stability for the membership as a whole.
This requires a broader toolkit than traditional pension investing, drawing on the most effective ideas from both DB and DC investment. Long-term growth remains essential, but it must be combined with portfolio designs that remain resilient through inflation shocks, market stress and changing economic regimes.
The challenge for CDC investors is therefore not whether to take risk, but how to build portfolios that can absorb shocks, recover from stress and continue supporting member outcomes through decades of uncertainty.
