Chris Rule (pictured), CEO of the £19.7bn Local Pensions Partnership (LPP), speaks to Carlo Svaluto Moreolo about building an in-house investment management outfit
The UK’s legal system operates differently from those in mainland Europe as it is based on common law – that is, judicial precedent, is taken into account as opposed to adherence to a legal code. Government agencies often prefer to provide guidance, expecting the public to comply, rather than forcing behaviour through specific written rules. At the same time, public debate can spur significant institutional changes before the government takes action.
The UK pension industry is no exception to that situation. The 89 local government-sponsored defined benefit (DB) pension schemes (LGPS) operating across England and Wales have been pooling their assets over the past five years. This activity was orchestrated by the government but it was essentially a voluntary effort.
The objectives of the pooling process are to achieve cost savings, improve governance, increase investment in infrastructure and coordinate responsible investment efforts. The process has resulted in the establishment of eight ‘LGPS pools’ and reshaped the UK’s institutional investment landscape.
Two local authority pension schemes involved in the process – the London Pensions Fund Authority (LPFA) and the Lancashire County Pension Fund (LCPF) – have stood out. They anticipated the government’s plans, and their peers, by signing a partnership agreement as far back as December 2014.
Asset pooling was one of several topics of debate at the time among UK LPGS, but it took another few months before the government officially launched the initiative in 2015. By the following year, LPFA and LCPF had already launched the first LGPS pool, known as Local Pensions Partnership (LPP), as most other local government schemes were just starting.
As its fifth anniversary approaches, LPP has become a fully-fledged organisation providing investment and pension administration services to the two founding schemes as well as a third LGPS, Royal County of Berkshire Pension Fund.
The organisation’s investment arm, Local Pensions Partnership Investment (LPPI), an FCA-regulated entity, has launched eight investment funds covering most asset classes, including equities, fixed income and alternatives. LPPI manages several portfolios internally and operates with a clear yet sophisticated model.
LPP’s clients determine their strategic asset allocation, with advice from LPPI as needed. The organisation, however, has full discretion on how that asset allocation is implemented. More specifically, the pool’s constituent members decide internally upon their exposure to major asset classes and acquire units in the appropriate pooled investment vehicles. LPPI then invests the clients’ assets within a set of guidelines, but based on its own investment decisions.
Chris Rule, CEO of LPP and LPPI, says that the model has allowed LPP’s clients to build the equivalent of an in-house investment manager quickly and effectively. The organisation has nearly doubled its AUM, starting from a base of around £10bn (€11bn) in assets to almost £20bn in 2020, split between two schemes. LPPI has built a team of over 140 members, including 49 investment professionals. Overall, LPP has more than 395 staff.
“LPPI has the dynamism and the agility of an asset management organisation, but it has all the benefits of longevity and of a long-term focus… we do not have to generate fee income from our products. The only objective is to deliver the best long-term returns for our clients ”
The growth in AUM was partly thanks to the onboarding of a third client and to the relatively swift transfer of assets from existing clients. But achieving comparable growth in staff and resources would have hardly been possible for individual funds, argues Rule.
“For an individual pension fund of the scale of our clients, it would have meant taking on significant costs alone. By working together, our clients have been able to reach the critical mass that makes the cost base sustainable,” the CEO says.
Rule was appointed CEO last February, having served as CIO since 2016. Prior to that, he was CIO at the LPFA and has a background in investment management. Among other roles, he was head of alternatives at SEB Investment Management and principal at Old Mutual Asset Managers (now Merian Global Investors). He says that recruiting for LPPI is facilitated by the attractiveness of working for an organisation like it.
“We have been able to attract diverse and experienced staff because LPPI has the dynamism and the agility of an asset management organisation, but it has all the benefits of longevity and of a long-term focus that come from being owned by pension funds,” says Rule. “We have a long-term investment horizon and we do not have to generate fee income from our products. The only objective is to deliver the best long-term returns for our clients.”
The model chosen by LPP’s clients allows their trustee boards to focus on strategic questions. Rule says: “It is extremely important that the right decisions are taken in the right places. In my view, time spent picking managers or selecting investments is not well spent for trustee boards. The areas where trustees can really make a difference are strategic asset allocation, understanding their risk appetite and managing funding risk, since these are the drivers of long-term success for a pension fund.
“Our choice was to draw the line at the top. Our clients decide on broad asset allocation categories, whereas we make the decisions on how to implement those decisions. We believe we can build the expertise and resources to make effective investment decisions in sub-asset classes. The model keeps evolving, in the sense that the list of options we offer to our clients becomes larger and more diversified,” says Rule.
The benefits for LPPI’s clients are already showing, says Rule. The organisation has reported about £47m of net savings for its clients since inception, but has not sacrificed returns. According to a well-known database of LGPS performance – PIRC’s Local Authority Pension Performance Analytics – LPP’s clients are among the top-performing funds. Meanwhile, LPP’s actively-managed global equity fund is 3% ahead of its benchmark.
Rule says: “By acting as our clients’ in-house investment manager, we can also leverage the benefits of combining active and passive approaches.
“To achieve cost savings, our clients could have simply switched their assets into passive strategies. But the savings from investing in passive strategies would have been lower than the additional returns from choosing the right active approaches.”
Compared with many UK DB investors, LPP’s investment strategy is more focused on return-seeking assets. This is because its clients are relatively young schemes. They are open DB schemes with contributions coming in every month from members and sponsors, which can be used to cover some of the pension payouts.
Because of that, LPPI has a strategy to match income-generating assets to ongoing liabilities, while keeping a significant share of the assets in equities and other growth assets. In private markets, LPPI looks for both income from real estate and infrastructure assets, and capital appreciation, thanks to its private equity portfolio. The private credit allocation offers a balance of both income and capital growth instead.
A key element of LPPI’s model is the internal management of the assets. At the moment, the organisation manages half of the equity portfolio in-house, thanks to a seven-strong team. It also invests directly in infrastructure through its own Infrastructure Fund and via GLIL Infrastructure, a £2.3bn partnership between LPPI’s clients as well as other LGPS, dedicated to investing in infrastructure.
The plan is to incrementally grow the expertise of the team, so that more asset classes can be managed internally where appropriate, while keeping a clear focus on delivering superior net returns to clients.
Rule says: “When outsourcing the management of assets, particularly in private markets, it can be difficult to get the right balance of agency risk and alignment between us and the managers.
“By having the investment management done internally, we can manage assets in a way that is more aligned with our clients’ liabilities, which stretch out into the very long term. That means having a buy-and-hold approach and balancing diversification against complexity. Sometimes asset management products are poorly suited to those needs.”
In the not-too-distant future, the organisation could grow the share of internally-managed real estate assets. Directly-owned UK commercial property takes the largest share of LPPI’s real estate vehicle, but the organisation aims to diversify further across asset classes and geographies.
Rule says: “Real estate is a buy-and-hold asset class that suits our clients’ needs. We might look to become more involved in the sourcing and management of the overseas assets instead of using a fund approach, given the good results from our portfolio of directly-owned UK assets.”
In other areas, including credit and private equity, LPPI will probably continue to rely on outsourcing to different extents, while trying to keep the list of external managers as short as possible.
Rule says: “We are trying to establish strategic relationships, with managers that can provide more than just straightforward investment management services. We look for managers that can help us understand our risks and crunch big data but, equally, we look to work with managers on cultural issues, such as diversity.
“Our clients decide on broad asset allocation categories, whereas we make the decisions on how to implement those decisions. The model keeps evolving, in the sense that the list of options we offer to our clients becomes larger and more diversified”
“Thankfully, the asset management industry is reacting to the changing times, and the proposition is very different from what it would have been a decade ago. Managers understand that we can collaborate in different ways, instead of just offering to deliver top-performing funds. They are also creating vehicles that are more attractive to smaller funds that cannot negotiate bespoke mandates.”
The industry is evolving, partly thanks to new types of asset owners such as LPPI, argues Rule, which have different behaviours and priorities compared with traditional ones. “The emergence of organisations like LPP helps the industry become more honest. Managers understand that asset owners have options, and when they present their option, they have to make sure it is a good one, rather than just the most profitable for their firm,” says the CEO.
Last year, LPPI published its first Responsible Investment report, signalling that it is stepping up its efforts in the area.
As a £20bn investor with about half of its assets invested in equities, LPPI perhaps does not have the resources of some of the larger, more active investors in the area of responsible investment. But Rule says that the ambition is to become more influential through collaboration with other investors.
LPPI favours engagement over divestment and has participated in high-profile engagements such as the actions carried out in 2019 by the institutional shareholders of Exxon Mobil. LPPI works as part of the Climate Action 100+, of which the LPFA, one of the founding clients, is also a supporter.
The organisation has also excluded thermal coal from its portfolios. It is a signatory of the UK Stewardship Code and the UN-backed Principles for Responsible Investment and has adopted the recommendations of the Task force on Climate-Related Financial Disclosures (TCFD).
Like most investors, LPPI is grappling with questions of ESG data, but Rule says that international collaborations have the potential to address the lack of data that is holding many ESG efforts back.
Bringing together different views on what responsible investment means can be difficult, but Rule says: “We try to close gaps between our policies and our clients’ policies. At the same time, we can be responsive if any of our clients ask us to carry out particular actions. But we always try and bring our clients together, because that is the whole point of the pooling initiative.
“The publication of a responsible investment report is part of that effort. We want to take the lead and we need to explain what we do, how and why.”
Having been involved with LPP for some time, Rule had to deal with an unprecedented healthcare crisis during his first year as CEO. The organisation has continued to announce investment initiatives, including the first £100m close of the London Fund, a fund investing in infrastructure, residential property and affordable housing in the capital. The fund is a partnership between LPPI, the LPFA and the London CIV, another LGPS pool.
But Rule says that the biggest challenge has been to continue building the organisation. He says: “We have hired people that have never been in the office with us. We have also moved to a new office location in central London, adapting the office space to a post-COVID future. I am concerned about the impact that the crisis has on our work culture, because investment management requires a collaborative spirit and the ability to generate ideas in a collective environment.
“However, the crisis has given us an opportunity to embrace diversity. We can learn to accommodate different working patterns and to take into account the different situations our employees face. Their ability to balance home life and work life has value to us,” Rule says.