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IPE special report May 2018

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USS: Mark-to-market to blame for pension funds' failure on infrastructure

The Universities Superannuation Scheme (USS) has cited the requirement to use mark-to-market accounting for scheme assets and liabilities as a major barrier to increasing UK pension funds’ allocation to infrastructure.

The £41.6bn (€50.3bn) pension fund for the UK’s higher-education sector invests in infrastructure but said mark-to-market regulations prevented the scheme from investing in more long-term projects.

Speaking at the London conference, The Investment Agenda, Kathryn Graham, USS’s head of strategy coordination, said she resented pension schemes being “constantly berated” for not being more long term in light of the circumstances.

Graham said she was always surprised at the level of infrastructure in Canadian and Australian pension funds, but that their accounting structures explained why allocations significantly outstripped those of the USS.

She highlighted the different method Canadian pension schemes take to mark to market, and the Australian perpetual structures approach, as a reason why they can accommodate allocations above 60%. 

Graham, who worked at the £40.2bn BT Pension Scheme (BTPS) before joining USS, said: “We cannot take advantage of this. I explained this to the UK government, which could not understand why we weren’t buying more like the Canadian [pension funds]. It is a balancing act, and we’re forced into this position.”

USS allocates around 5.1% of its assets to infrastructure, but this is less than half the allocation to private capital markets and lower than its allocation to Japanese equities.

The scheme has made several high-profile UK infrastructure purchases, including a stake in the UK’s air traffic control service and an airport in south-west England.

It was reportedly in line to purchase the government’s stake in Eurostar, the UK/Continental train operator, before being pipped to the company by Canadian fund Caisse de dépôt et placement du Québec (CDPQ).

However, Hermes Infrastructure did acquire a 10% stake on behalf of several UK schemes including the BTPS.

Defending mark-to-market accounting, Ian McKinlay, investment director for the nearly £15bn (€20.4bn) Aviva Staff Pension Scheme, said closed defined benefit (DB) schemes should adhere to the system to ensure pension payments are met.

He did, however, suggest that open schemes, such as USS, should be regulated more as endowments are.

“The reality for me, with a closed scheme, is that I have to get the last cash flow, and the clock is ticking,” he said.

“In that environment, mark-to-market makes more sense because I have fiduciary obligation to make sure the probability of paying the pensions is as high as possible.”

Stefan Dunatov, CIO at Coal Pension Trustees, which manages £20bn in assets for the UK’s formerly nationalised coal industry pension funds, said mark-to-market was forcing pension funds to buy UK Gilts, instead of other assets, unnecessarily.

He said the regulatory standards meant schemes always preferred buying Gilts, in order to be hedged.

“You get into a situation where everyone might say they are liability-matched, but they’re not because it cannot possibly be,” he said. “We need to rebalance the regulatory culture.”

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