AXA Investment Managers has warned the government that UK local authority pension schemes would witness a “tsunami of foregone returns” if the funds were banned from using active management.
It said proposals to reduce costs in the local government pension schemes (LGPS) by either launching several collective investment vehicles (CIVs) or shifting assets to an index-tracking approach were “well-intended policy changes that could, in fact, have negative repercussions”.
In its response to the Department for Communities and Local Government’s (DCLG) consultation, the asset manager said a focus solely on CIVs and passive management overlooked the longer-term contribution that investment returns and risk management made towards reducing deficits.
It said the DCLG’s decision to push for passive management was based on analysis that showed active management not significantly outperforming market indices.
“These numbers are clouded by a broad spectrum of active styles and strategies, including some whose holdings did not deviate much from the market index (thus making it difficult to deliver excess return net of fees),” the paper says.
“Others that are less benchmark aware and have consistently outperformed the market index over the long term.”
Instead AMA IM suggested a greater focus on risk management and hedging strategies to smooth any funding level volatility within individual LGPS.
“Passive management and use of CIVs might be an ideal solution for some schemes, but these investment decisions need to be made in consideration of a fund’s own strategy,” it continues.
“Low cost does not need to mean passive management or use of CIVs, and similar cost savings are likely to be available through collaboration and collective bargaining.”
The asset manager urged the DCLG to consider the wider consequences of implementing the “seemingly small” change.
“Cost reduction should not be the key measure of success or the main focus of reform,” the paper concludes.
“Deficit reduction is about improving funding levels, and success should be measured through a combination of factors that – outside of changing the benefit structure and increasing contributions – also include return enhancement and risk management.”
Meanwhile, government has estimated that equalising the survivor benefits of same sex couples is set to cost UK defined benefit (DB) schemes £3.1bn (€3.8bn).
According to the Department for Work & Pensions (DWP), which was required to review the matter following the introduction of marriage equality in England and Wales earlier this year, the immediate cost to public sector schemes would be £1bn, backdating benefit payments that would have been paid prior to April 2015.
The review added that the ongoing cost of putting same and opposite-sex spouses on equal footing would be £100m “into the 2020s, reducing thereafter” for the public sector.
It also found that private sector DB schemes would see their liabilities increase by £400m, with the impact limited to a relatively small number of funds.
The problems stem from the introduction of civil partnerships for same sex couples in 2005, and the subsequent allowance in the Equality Act 2010 that pension funds need not account for spouse benefits of same-sex partners prior to that time.
Frances O’Grady, general secretary of the union umbrella group TUC, said the discrepancy between the two survivor groups was “disgraceful”.
“This discrimination is especially widespread in the private sector, where one in four defined benefit schemes discriminate against same-sex couples,” she said.
O’Grady was referencing survey data published by the DWP that found 27% of schemes employed two distinct ways of calculating pre-2005 survivor benefit entitlements for same and opposite-sex spouses.
“This equates to 1,334 schemes that have a difference in this entitlement,” the DWP said. “Small schemes were more likely to have a difference in how these benefits were accrued (35%) compared with large/extra large schemes (15%).”
The DWP said it would need to consider the “costs and potential impact”, as well as the wider impact of making retroactive changes to DB benefits, before settling on how to proceed.
However, O’Grady noted that equalising benefits would only amount to a 0.03% increase in private sector liabilities, which, according to the Pension Protection Fund 7800 Index, in May stood at £1.29trn.
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