It seemed so full of promise, says Peter Kraneveld. But was fiduciary management just a fad? Did it ever get off the ground?
Here are the facts: the fiduciary management market in Europe is made up of assets under management (AUM) of €761bn from 517 clients, provided by 29 managers, according to Spence Johnson*. Of all the fiduciary management AUM across Europe, 89% is from Dutch clients. The remainder is split 6% from clients in the UK, 2% from Germany and 3% from elsewhere in Europe, particularly Italy and France.
Fiduciary management assets in the Netherlands are the equivalent of 82% of all Dutch defined benefit (DB) pension assets. However, fiduciary assets in the UK are the equivalent of only 4% of all UK DB pension assets.
Fiduciary management is an overwhelming success in the Dutch market and doesn't appeal to other markets, notably the UK. Have the Dutch gone overboard, are the British missing something or is something else going on?
It is easy to argue that the Dutch and British pension accumulation systems are much alike. However, the best known distinctions do not explain the different attitude towards fiduciary management. Other, more subtle factors do. In the Netherlands, there is a fierce debate on what pension funds can do, pitting pension funds against insurance companies, often in a courtroom. In Britain, rules on personal liability of trustees for the pension deficit have strengthened the role of consultants and marginalised trustees to the point where the usefulness of trustees has been questioned.
Why does that make a difference? If your ambition is to take good care of your participants and legal structures frustrate that ambition, you look for a different legal structure. That is exactly what happened in the Netherlands. Big pension funds split up into two parts. One part - let's call it the pension plan - takes care of everything from wage formation to the pension deal. The other part, the pension fund, collects contributions, invests capital and pays pensions. The pension plan is now bound to all the legal restrictions, while the pension fund has become a specialised financial organisation, like a bank, an insurer or an asset manager and it can offer those services hitherto forbidden. This is why PGGM is now PFZW, which employs PGGM and why ABP is still ABP and serviced by APG Group.
Dutch pension funds quickly realised how profound the change was. The large pension funds went hunting for new clients, flaunting such advantages as understanding how pension funds, supervisors and governments think, not selling other financial services and sophistication in dealing with investments under such restrictions.
The small funds knew that they couldn't compete because of their size. A happy marriage came about. Small pension funds - and even not so small funds - outsourced their assets to big funds, asset managers and banks, profiting from scale advantages, notably a level of sophistication they couldn't achieve under their own power and that didn't come in a consultant's black box. Fiduciary management was born because it solved problems. It was first used to buy sophistication, it is now used to take advantage of the split between pension plans and pension funds.
Fiduciary management had its problems. One that loomed large was a conflict of interest where the fiduciary manager also sold other financial services.
Meanwhile, the new financial organisations looked across borders to Britain. They saw small pension funds and funds under pressure. As the figures quoted above show, fiduciary management didn't take off. But it was not for lack of trying. Mn Services even set up an office in Britain and has caught some fish but, mostly, fiduciary management has been a dud. Most failures have a number of reasons, but some stand out. So it is with fiduciary management. I believe the reason for the failure standing out in this particular case is the preponderant use of consultants in Britain.
Consultants come in all sizes and shapes, but they all have a commercial interest. That interest does not align with fiduciary management; on the contrary. A fiduciary manager does what a British consultant has long been doing - advising the trustees, managing the portfolio, making the tactical decisions and implementing the ALM. The reaction of the big consultants was perfectly understandable in hindsight and correct from their point of view: muddy the water with alternative definitions, like saying you wouldn't have to outsource the whole portfolio, use terms like implemented consulting, and make it look like UK pension funds have already got whatever fiduciary management offers.
Whereas in the Netherlands, fiduciary management is a legal solution and an alternative way of governance, that same instrument is seen as the competition to ward off in a British framework. Fiduciary management was seen not as a different way to operate a pension plan, but as an alternative for the incumbent consultant. The Dutch thought they were up against UK pension buyouts. Instead, they were up against the power behind the trustees' throne - the consultant.
Does that mean that the British market will never convert to fiduciary management? Maybe, but there are some elements to consider first. Let me cite article 7 of EU directive 2003/41/EC (the IORP directive): "Each member state shall require institutions located within its territory to limit their activities to retirement-benefit related operations and activities arising there from." This is the sort of language that caused the sharp altercations between the pension sector and the insurance sector in the Netherlands. If this article were to be enforced the Dutch way in Britain, British pension funds would be just as frustrated as their Dutch colleagues, opening the way to splits between pension plans and pension funds and fiduciary management as a solution for a problem.
More important and quite apart from legal developments, fiduciary management has value by itself, if applied in the right circumstances. Small and medium-sized pension plans can use fiduciary management to tap into the experience and scale of a large pension fund. It wins sophistication, lower cost and access to specialised asset categories. It does not lose control, as is often feared. A fiduciary manager's client remains owner of the assets, responsible for the pension deficit, ALM, contribution level and pension deal.
That also means that fiduciary management is an excellent solution for an issue playing in many European countries - the large number of very small funds and the attempts of policy makers and supervisors to diminish their number. The fiduciary manager has the experience and capacity to deal adequately with technical and tactical issues. The pension plan can concentrate on strategic issues and its own governance. It can continue to exist, adding its value.
Sponsoring an open pension plan is a message to prospective workers: we care. Having the fiduciary manager as an extra stakeholder has more subtle effects. When the sponsor has a strong market position, such as in the case of a government or a de facto monopoly, having a technically strong partner can be a useful counterweight and can rationalise relations with the sponsor.
These advantages work in any country. A fiduciary manager can handle both DB and DC plans and hybrid schemes, even at the same time. Therefore, fiduciary management is a strong tool for international co-operation. The pension plan can continue to do what it has always done: build decent pensions at an attractive price.
The lesson learned is obvious. If fiduciary management works well because of changes in the Dutch legal system, that is no reason why it should work in any other country. Fiduciary managers should learn to listen to the problems their prospective clients have. Those problems might well include reasons to propose fiduciary management (lack of scale, lack of sophistication, limited access to international markets, domination of high-cost service providers), but if they don't, offering fiduciary management is counterproductive.
My analysis leads me to believe that the market for fiduciary management will largely consists of small pension funds and small countries, primarily those covered by EU regulation, because it offers common minimum standards, therefore trust in the fiduciary manager. It will take patience to explain fiduciary management, goodwill to overcome the inevitable financial and cultural stumbling blocks and an orientation towards servicing clients well, in spite of their size. That sounds possible, so I think fiduciary management might not conquer the world, but it's here to stay.
* Fiduciary Management Market Insight, March 2011
Peter Kraneveld teaches pension fund governance and is an adviser to APG.