UK Pension Protection Fund shifts from active management to smart beta
The UK Pensions Protection Fund (PPF) has thrown its weight behind smart beta after changing the benchmark it uses to monitor equity managers to a minimum volatility method.
The nearly £19bn (€23bn) lifeboat scheme has a combination of both passive and active equity mandates.
Speaking at EDHEC Risk conference in London, principal portfolio manager John St. Hill told delegates that the fund, as one of the “vanguard” of smart beta, had begun the shift away from active management, including the entire change of its benchmarks.
“Our first foray was in 2010,” he said, “when we replaced one of our active equity mandates with a smart-beta mandate, which picked up more or less the same beta as the active manager.”
He added: “Last year, we changed the strategic benchmark for all of the equity managers from the traditional capitalisation-weighted index to a minimum-volatility index.”
St. Hill said the main reason for its move away from active management towards smart beta was the lack of value the fund felt it was receiving on some of its active equity mandates.
He said market offerings of active management were often just standard systematic investment processes with “bells and whistles” added on.
But, with market developments and technology, he said the fund was now able to disaggregate a manager’s performance and pinpoint where the added value was coming from.
This allowed the identification of an index-tracking active manager, or genuine performance, St. Hill said.
The move from the PPF comes after research from asset manager State Street showed that a majority of global institutions were considering smart-beta investments as an alternative for both passive and active management.
State Street’s research also revealed varying usage of indices in smart beta, with low valuation – where stocks are chosen on their discount basis – and low volatility – which picks stocks that have shown low levels of risk over time – being the most common.
The decision from the fund to shift the benchmark indices it uses also comes amid debate in the industry over conflicts of interest from index providers.
EDHEC Risk Institute, based in Nice, France, produced research showing that the majority of institutional investors were dissatisfied with the level of transparency provided by index providers.
It said moves to improve governance among providers had failed to convince investors that conflicts of interest were mitigated in index creation, leading to calls for further regulation.
The European Commission, and the European Securities and Markets Authority (ESMA), are currently working on a proposal to build in further governance and transparency requirements from providers, in addition to the requirements set on UCITS funds in 2012.
ESMA said additional requirements would be necessary as more complex indices, such as those used in smart-beta investments, were brought onto the market.
However, St. Hill said that, when the fund began shifting its indices and benchmarks, it found transparency was not an issue with equity index providers, and data was provided for independent back-checks of performance.
“We get more problems on the fixed income side,” he said. “Trying to get the fixed income benchmark providers to disclose data, the bill arrives before you have asked the question.”