The timing of the reclassification of UK local government pension schemes (LGPS) as retail investors under new MiFID rules poses “a significant challenge” to the asset-pooling project underway in the sector, according to the LGPS scheme advisory board for England and Wales.
It is planning to call on the regulator to exempt the emerging LGPS asset pools from a MiFID rule it sees as preventing local authority pension funds from accessing “the full range” of assets offered by a pool.
The Financial Conduct Authority (FCA) is carrying out a third consultation on implementation of the revised Markets in Financial Instruments Directive (MiFID II), with a deadline of 4 January 2017 for comments.
The revised EU directive comes into effect on 3 January 2018.
The new rules are controversial within the local authority pension fund sector because they reclassify administering authorities as retail investors.
Under the original directive, asset managers were allowed to treat local authorities as professional investors automatically.
The Local Government Association warned about such a move more than year ago.
The advisory board for the LGPS Scheme is due to reiterate many of these concerns but also address the negative implications for pooling in feedback to the FCA’s consultation, a draft of which it approved at a meeting earlier this week.
This describes the reclassification of local authorities as retail clients as “unnecessary” and says that “properly considered investment strategies will be placed at serious risk”.
It singles out infrastructure, saying the reclassification is “inconsistent” with the government’s desire for more investment from local authority pension funds in this area.
This has been a big driver behind the government’s instruction for the LGPS to form asset pools, a project they have been working on fervently for the past year.
The scheme advisory board’s draft consultation response challenges the feasibility of local authorities being able to “opt up”, as the move has been described, to “elected professional status”, and the effectiveness of that route.
It is due to argue that asset pools “could provide an alternative to elected professional status, with assistance from [the] FCA”.
By “assistance” from the FCA, the scheme advisory board appears to mean the regulator exempting asset pools “in their own right” from a rule prohibiting retail clients from being sold “non-mainstream pooled investments”.
These exemptions – of which there are 13, including elected professional client status – “could provide a means of local authorities accessing the full range of assets offered by the pool”, according to the advisory board.
Where they operate collective investment schemes, an exemption for asset pools would allow pension funds to participate in the full range of assets being offered without having to go through the process of upgrading to professional status, the board argues.
It says the opting-up process would still be necessary where pools did not operate collective investment schemes or where local pension funds continued to invest outside these.
Several of the pools have decided to set up authorised contractual schemes (ACS), a tax-transparent type of collective investment vehicle, although many of the pools’ submissions to the government have indicated that illiquid assets would remain outside the pools for the time being.