LGPS: Straight in at the deep end
Gail Moss assesses progress so far as the eight local government asset pools of England and Wales test the water
At a glance
• Eight pools have emerged to manage the assets of the local government pension schemes in England and Wales.
• These are at various stages of development and so far two have received FCA registration.
• There are plans to invest in infrastructure but existing illiquid assets will probably remain outside the pools for the time being.
• Some pools may develop services for third parties.
Proposals for pooled asset management by local authority pension funds are with the UK government, and the race is on to set up asset pools by the deadline of April 2018.
The idea of asset pooling was introduced last year by the government as a way of providing finance for domestic infrastructure projects, besides cutting management costs.
The move towards a more efficient way of managing council pension assets is now in full swing.
Eight different pools have been established throughout the UK, some based on geographical proximity, others teaming up far-flung authorities, such as the Border to Coast pool, which includes both the north-east of England, and Surrey and Bedfordshire, close to London.
But some pension pools are ahead of others in advancing their plans, with one already up and running. The Local Pensions Partnership (LPP), the £13bn (€15bn) asset pool established by the London Pensions Fund Authority (LPFA), and the Lancashire County Pension Fund, launched last July, before the government’s own blueprint was published. Berkshire Pension Fund has since joined.
The entity has established its own investment vehicle, LPP Investments (LPPI), which has accreditation from the Financial Conduct Authority (FCA).
For all pension pools, decisions on overall investment strategy will still reside with the individual local authority fund, but how these decisions are implemented will be up to the pension pool as a whole. The enabler for this is likely to be a joint committee or corporate board with representation from each fund.
For instance, LPP is run by executive and non-executive directors, who report to the group board.
Funds set their individual investment objectives and strategic asset allocation, while LPPI makes all sub-asset class and manager or stock selection decisions.
An advisory and management agreement between each fund and LPPI governs the implementation of the investment strategy, and provides LPPI with the delegated authority to do this in line with the strategic requirements of each fund.
Investors are represented through a shareholder committee/investor forum, although this body is not regulated by the FCA.
While the need to finance infrastructure spending was a key driver behind the pooling plans in the first place, a big incentive for the pension funds will be expected cost savings.
“Savings will be generated largely through lower manager fees at an individual fund level,” says David Walker, head of local government pension scheme investments at Hymans Robertson. “There will also be downward pressure on fees throughout the market because of pooling programmes and increased mandate sizes.”
There are wide variations between pools – those using exclusively external managers, those with in-house management, and those using both. Asset management could be by a regulated vehicle set up by the pool itself – the authorised contractual scheme (ACS) – or by external managers appointed for specific mandates.
For example, the £33bn Central asset pool, formed by eight LGPS funds in central England, will start with in-house management running an ACS for the funds’ listed equity and bond holdings, around 60% of the total.
The arrangements for alternatives are still being decided, although some of those assets, including indirect property, could be brought within the ACS as well. A shift towards direct property holdings is also planned.
Walker says most pools will use third party managers for some asset classes, such as private equity, where they do not have the in-house management capability.
But he warns: “Resourcing is going to be a challenge for those pools setting up fund management organisations. There will be a demand for new roles such as risk officers, compliance officers and chief investment officers, and themarker environment for these roles will be extremely competitive.”
The LPP uses a mix of in-house and external management, but with a heavy focus on in-house, on the assumption that a more sophisticated in-house team allows a fund to work better with external managers.
Creating the pension pools means merging certain functions between the constituent pension funds. In theory, such mergers could potentially lead to culture clashes, but Walker suggests these seem to be progressing smoothly.
Some pension funds have come together through what Walker terms “likemindedness”, in other words, prioritising workability at the institutional and individual levels. “For instance, the Brunel pool, which covers the south west, and ACCESS [east Midlands and southern England] both use evidence-based decisionmaking, where an analysis is carried out before a decision is made,” Walker explains. “In contrast, some other pension pools have a clear, instinctive view as to which way to go.”
“Investing in this asset class directly will enable us to get better risk-adjusted returns”
On a wider scale, there is likely to be co-operation between different pension pools in the form of cross-collaboration groups, particularly with respect to infrastructure investing, both in the UK and abroad. Several parties are now in the running to develop a national investment platform, potentially overtaking the UK’s existing Pensions Infrastructure Platform (PIP), which has struggled to establish itself since its launch in 2011.
For the £35bn Northern pool – involving the Greater Manchester Pension Fund (GMPF) and its partners, Merseyside and West Yorkshire – there is a focus on alternative assets, rooted in the desire to cut management fees.
At present – as shown in its accounts – GMPF pays less than 10bps per year to external managers for running its listed securities mandates, compared with higher levels for some LGPS funds in other parts of the country.
The fund therefore assumes it makes sense for the first couple of years to focus on alternatives, particularly infrastructure: “Investing in this asset class directly will enable us to get better risk-adjusted returns,” says Paddy Dowdall, assistant executive director at GMPF.
Walker agrees that more direct investing is likely to help reduce fees, especially given the larger mandate sizes, likely to average at least £1bn.
Meanwhile, the LPP has a heavy focus on alternatives. The £500m infrastructure joint venture launched 18 months ago between the GMPF and the LPFA is now being expanded to include both the Northern pool and LPP – and will be expanded to £1bn. It is also planned to open the joint venture to other local government pension funds in the future. On the equities side, however, LPP says it expects to save £32m over five years by just pooling in this asset class.
In London, 33 LGPS schemes have set up their own collective investment vehicle, the London CIV, the only other pool with an FCA accreditation. The pool has already begun setting up a number of dedicated sub-funds for its members, with over £6bn shifted from existing mandates.
However, a significant amount of members’ assets, mainly illiquid investments, will remain outside the pool, until the structures to hold them are created.
Looking ahead, some pools are already seeing opportunities beyond the basic framework. For instance, the Central asset pool says a long-term aim is to offer investment management services to third-party investors, such as charities.