In response to the UK’s Mansion House reforms, which encourage pension schemes to increase investment in productive finance, XPS Pensions Group has launched an illiquid solution for small and medium-sized defined contribution (DC) pension schemes.

Last July, the Chancellor of the Exchequer, Jeremy Hunt, announced plans to unlock up to £75bn of additional investment from DC and Local Government Pension Schemes (LGPS) to help grow the UK economy.

As part of the plans, Hunt asked DC schemes to commit to allocating at least 5% of their default portfolio to unlisted equities by 2030.

In response to the regulations announced by Hunt last year, XPS has developed an approach that can target a 20% allocation to private markets within default strategies for DC schemes with total assets of £30m and above.

XPS said the solution is “cost-efficient” while offering the flexibility to be tailored to individual scheme requirements. A scheme invests via a platform provider who manages a blended fund, periodically rebalanced to maintain the target allocation.

Each blended arrangement is a scheme-specific structure so there are no other investors to deplete the liquid component.

The arrangement includes additional fees of the order of 0.4% per annum compared to investing in a traditional liquid strategy. XPS believes this will be offset by higher returns and greater diversification from listed markets than otherwise possible.

XPS projects that the additional net return would be expected to increase a typical member’s pot by 7%. In addition to expecting higher returns, the private market focus also provides scope for additional ESG impact through targeted private market investment in key sectors, XPS added.

Mark Searle, head of DC investment, said there is a “huge” opportunity for DC schemes to benefit from growth in private markets, but until now, this has only been accessible for the largest schemes.

He said: “This approach is the first-of-its-kind to provide access of this magnitude to illiquid private market assets for mainstream small and medium sized DC schemes.”

Searle said XPS set out with the “ambition of creating an approach that allows as many DC members as possible to benefit from the merits of private market assets, without having to wait for a change in regulation from the government“.

Simeon Willis, chief investment officer, added: “What’s unique about this approach is that each scheme will have its own arrangement, combining liquid and illiquid assets.”

He said that this gives schemes an autonomy over choosing funds and how the allocation changes through time, and crucially maintains independence from other investors.

He said: “This new approach will give schemes substantive exposure to illiquid assets, without the potential for other investors to eat up their liquidity buffer for breakfast.

“This liquidity snaffling has caused high-profile difficulties for pooled arrangements which have attempted to overcome the need for liquidity by pooling liquid and illiquid assets together in a daily traded fund,” he concluded.

Read the digital edition of IPE’s latest magazine