Fiduciary management is now established in the Netherlands, but what role do consultants play when a fiduciary is appointed? Pirkko Juntunen investigated
It is often said that necessity is the mother of invention and perhaps this is true of the rise of fiduciary management. As the roles of advisers, consultants and money managers become increasingly blurred, a move to fiduciary management, with just one accountable point of contact, is attracting pension funds, particularly in the Netherlands.
Assets under fiduciary management in the Netherlands have gone from zero to more than €100bn in five years, with over 20 providers and funds of all sizes having embraced the concept. However, critics say it is just another name for balanced management or an extension of multi-management or implemented consulting
Anton van Nunen, considered the father of Dutch fiduciary management, says it is a management model as such and not some kind of purified form of an existing model. He argues that balanced management suffered from the flaw that one manager can be all things to all men and a belief that it offers low diversification. He notes that if the expertise is with those without overall responsibility, while those without expertise - despite help from consultants - are responsible, an organisation can become ineffective, lacking the basis for good strategic decision making - which is quite opposite to fiduciary management.
He also notes that given the breadth of tasks of the fiduciary it is obvious that fiduciary management is more than multi-management. Van Nunen concedes that although implemented consulting approaches the fiduciary concept, it should be devised differently from the way it is now. He urges consultants to show all the characteristics a good fiduciary has, except for the responsibility the fiduciary has in the execution.
Dennis van Ek, a principal at Mercer in the Netherlands, notes there are several factors behind the success of fiduciary management in Holland. “There is increased pressure for good governance coming from, among others, the regulator,” he says.
“In addition, the increased sophistication and complexity of the investment area has also led pension funds to seek this type of help.” Van Ek points out that fiduciary managers have been seen as return enhancers and as a solution where pension funds have become less of an concern for the sponsoring company, often through the move to collective defined contribution solutions.
Mercer recently hired Jelle Beenen from PGGM to head investment strategy consulting.
Luigi Leo, head of implemented consulting and manager research in the Netherlands for Watson Wyatt, says consultants play a vital role in the early stages of the process of selecting a fiduciary, that is in helping the pension funds to first define what they really need and what areas of outsourcing would be appropriate and then to find the right policy.
Van Ek says that the consultants’ role is vital because monitoring of the fiduciary becomes necessary. “We have to examine what alpha is added, not only by the fiduciary manager but also the other underlying providers such as external fund managers.” He adds that consultants can remain part of the hiring and firing of managers but are particularly important in the area of policy and judging the advice given by the fiduciary manager.
Leo agrees and says that consultants should also be a bridge between the board and the fiduciary in order to provide independent assessment and also challenge the various counterparts. “Consultant help needs to step up to a different level from before and be at the same level as the fiduciary manager,” he says. “The relationship might not quite be a marriage but it is definitely a long-term one.”
Frits Bosch, principal and founder of Bureau Bosch, notes that it remains a challenge for the fiduciary to get it all right and for the boards to ensure that they follow their brief. This makes independent observers invaluable, he says. A Bureau Bosch proprietary survey on the state of fiduciary management in the Netherlands is to be published this month.
Another key function is performance measurement and most agree that custodians are in an excellent position to take on this role. But Van Ek notes that some custodians may need time to step up to the challenge of this role.
The short duration that the phenomenon of fiduciary management has existed makes it difficult to judge its drawbacks, but critics argue that the loss of control by the trustees is one of them. Bosch says that the loss of control will only happen if everything is outsourced to one entity, which is rarely the case. “There is no sitting back and relaxing for trustees because they are still ultimately responsible under Dutch law,” he notes.
Van Ek notes that another emerging issue is the disappointing performance numbers from some of the fiduciary providers. “In addition, there is also the potential for increasing costs as performance fees run up. These are issues that have to be carefully monitored.”
But Bureau Bosch’s research effort indicates that this may be more difficult than expected. Bosch says the company has noticed a reluctance by fiduciary managers to disclose their fee structures.
Van Nunen agrees that there is a high probability of cost increases, next to the probability of higher returns. He says this does not always sit well with Dutch institutions, which are used to low fees, and suggests that performance-related fees seem to be a solution.
Van Ek notes that pension funds risk losing whatever in-house expertise they have built up. “Another drawback is that the responsibility to achieve the fund’s investment goals is currently not adopted by the fiduciary manager. Investment goals are stated in terms of available risk budget and return requirement versus liabilities. In the implementation of, for instance, an 8% risk budget and a 2% outperformance target, only advice is given. Because these providers are asset managers by nature, we have to question the quality of the advice and whether it is suitable for clients.”
So far there have not been any terminations of fiduciary mandates but there is growing dissatisfaction with performance, he notes. “When there is a collective DC solution, the sponsoring company becomes less interested in the fund, and therefore may stick to underperforming managers for longer than a DB fund would. But I am convinced that if funds hired them as return-enhancers and they did not deliver they would be fired just like any other manager, because ultimately the board is responsible by law.”
Leo says that to terminate a fiduciary contract would be a complex process, which is why it is even more important that requirements are examined carefully and the groundwork carried out before going ahead. “On the other hand, the nature of the relationship, with all its varied dimensions, may make it possible to fix glitches before they actually become a real issue because it is in everyone’s interest to do so. So, excellent communications is another vital ingredient.”
Bosch says the changing of mandates will be an interesting scenario because of the complexity. “There are more questions than answers. Will pension funds revert back to unbundled services if they are dissatisfied with fiduciary management? But what if it is just one module that is causing the dissatisfaction? Then there is also the question of transition management of such a complex mandate.”
The tightening regulatory environment is putting a strain on pension funds, not only in the Netherlands, and Van Nunen believes this will encourage the rise of fiduciary management in other countries.
Less favourable future returns globally are also expected to boost new and improved ways to organise investment management. Despite the varied regulations governing pension funds, the general view among investment professionals is that the concept can be transported elsewhere.
In the UK where consultants have had what has been described as a vice-like grip of the invest-ment industry, the concept may have some trouble taking hold, possibly also because of the name. As Van Nunen says: “A fiduciary manager next to a fiduciary is not very efficient in defining responsibilities.”
Kerrin Rosenberg, who joined Dutch risk and derivative overlay expert Cardano last year to set up its UK business, says that although the concept does not exist in the UK yet, implemented consulting touches on it and there is a demand for holistic solution to complex problems facing trustees. “At Cardano UK we have chosen a different word - solvency management,” he says. “We still have to explain the concept from scratch. The issue is less about what you call the process, the important factor is having one point of accountability and professional advice that goes beyond traditional advice.” He argues that trustees should decide what skill sets they are looking for and what business model they would like to work with, be it investment banks, fund managers or investment consultants.
It seems that whatever it is called, this new concept is beginning to tickle the imagination of the pensions industry, and not only in the Netherlands. But only time will tell whether or not this is the solution its advocates make it out to be or just another idea that in years to come will be viewed with as a fad that costs more than it returned.