Never one to miss an opportunity, all elements of the financial services community are trying to muscle in on the liability driven investing bandwagon. Investment banks, asset management groups and consultants have all been rubbing their hands in anticipation at the mouth watering prospects that LDI are likely to bring. At the moment, the business is not flowing as expected but that has not deterred any of the players from making a move.

For the investment banks, many have set up pensions and insurance groups that offer a range of services. They are highlighting their acumen in navigating the world of derivatives and structured products which are often part of a LDI strategy. Asset managers, in the meantime, are getting up to speed with the different rungs along the risk curve while they plug their skills in managing assets as well as role as their responsible fiduciary.

Naturally, both note they have the clients' best interest at heart. Equally, each sector would bristle if criticised for not having the right skill-set to tackle this burgeoning field. The truth, however, is that they are tapping into each other's expertise and are increasingly working in a more collaborative rather than confrontational fashion. In fact, looking ahead, the competition is likely to intensify between firms within the confines of their own circles. In other words, banks will increasingly vie with each other for business and the same will apply to fund managers.

Raymond Haines, head of the UK pension advisory group at ABN Amro, says, "The investment banks and asset managers are coming at the business from different perspectives. The banks are looking at LDI from the corporate sponsor's perspective while the asset managers are looking at it from a trustee viewpoint. We started our pension and advisory business about two years ago in response to demand from our corporate clients. I think investment banks are better able to provide tailored structured solutions that sponsors can wrap up with other products, while the asset managers will tend to create solutions that are simpler to use, including pooled funds."

In some ways, it is a win-win situation for the banks. They not only often provide the tools the fund managers can use to create their own LDI solutions, but they also act as counterparties in the fund manager's quest for best execution. As Ralph Frank, senior investment consultant at Mercer points out, "The main difference between the two groups is that the banks are generally transaction driven, while the asset managers are usually product driven. However, often the fund managers develop their products based on financial instruments delivered by the investment banks. Even when they create products independent of the banks, the managers need someone on the other side of the trade to deal with."

Brandon Horwitz, LDI portfolio manager at Morgan Stanley Investment Management, adds, "The investment banks have led the charge in the creation of tools and asset managers are using them as building blocks for modern LDI . In the long term, I think we will see pension funds as well as corporates work through the asset manager while the banks will be the provider of liquidity for these transactions."

Steve Aukett, director of the financial solutions group at Insight Investment, adds, "We have developed an LDI capability that is completely independent of the investment banks with whom we trade. The systems supporting our LDI solutions have been developed in-house and by integrating some of the ‘best of breed' tools that are also in use by many of the investment banks."

Where rivalry does exist between the two groups, it is typically at the upper end of the spectrum either with the larger pension scheme or corporate plans, both of whom are au fait with the inner workings of derivatives and structured products. For example, the household blue chip companies, who have long standing relationships with investment banks for their treasury functions, will often turn to them as the first port of call concerning their pension fund schemes.

As Bob Tyley, managing director, head of the insurance & pensions solutions group at Merrill Lynch puts it, "We have a large investment banking franchise in Europe and we are advisers of choice for many companies. This is not just on mergers and acquisitions or initial public offerings, but also for pension fund strategies."


The larger pension schemes also have the expertise to develop their own strategies but they often prefer using an asset manager to take care of the day to day administration that some of the more complex instruments require. Richard Phillipson, a principal at Invesit, an asset management consultancy, notes that "There are several large European pension funds who have the infrastructure in place and are able to do all the pieces themselves. They are quite capable of taking the advice of the consultant and then implementing an LDI solution form start to finish. However, even those schemes that can implement conceptually usually rely on fund managers (and their third party administrators) to actually maintain, value and administer the swaps contracts."

It is more likely, though, that the two sides will work closely together on the thornier, complex deals such as last year's landmark WH Smith deal. The stationer's gaping pension fund deficit of £220m was brought to light after Permira abandoned its bid once it discovered the gaping hole. The transaction, which is still being hailed as one of the most innovative, involved restructuring 94% of the fund's assets and buying a series of derivatives - long-dated index-linked gilts and interest-rate and inflation swaps - to mirror the fund's liabilities. It kept only a small exposure to stock markets through long-term call options.

Goldman Sachs was appointed advisor while Deloitte was employed as an independent consultant. State Street Global Advisors was brought in to set up a bespoke pooled fund - a special purpose vehicle with an insurance wrapper - to manage the investment on a daily basis.

Joe Moody, head of LDI for State Street Global Advisors, says, "The WH Smith deal was really a case of all the players bringing their skill sets together to develop the best strategy. We all needed to cooperate because the structure was so complex. The result was that it helped get rid of the risks that were not being rewarded and the funding status of the plan was better controlled against any volatility that might be incurred. The current and future expected increase in mergers and acquisition activity will put more pressure on companies to look closely at their deficits."

While competition between banks is expected to intensify for deals such as WH Smith, they are much less likely to fight for direct business with the smaller to medium sized pension funds. These schemes prefer the status quo of using a consultant and interacting with a fund manager.

John Nestor, managing director, insurance & pensions structured solutions group at Citigroup, who recently moved over from the asset management side notes, "At the larger end of the spectrum, chief financial officers are more comfortable working with an investment bank. They are also more equipped in setting up derivative contracts, (commonly referred to as ISDAs - The International Swaps and Derivatives Association) and collateral management which derivative trading involves. This is not always the case with the small to medium sized pension funds."

After all, setting up the documentation that allows schemes to invest in swaps can be costly and time consuming. Although ISDAs are standardised legal agreements, coping with the nitty gritty details and any customised elements, as well as overall governance issues can be daunting for smaller schemes which do not have the internal resources.

As Marc van Heel, director of business development for the Benelux of PIMCO, notes, "It is much easier for a small or medium sized scheme to piggyback on a fund manager that has strong ISDA agreements in place and can provide collateral management. You rarely see an investment bank touting for business in this space. It is in this area where you will see asset managers competing for business."