UK pension scheme trustees should be held accountable for the financial performance of their pension funds in a similar way to corporate board members, according to consulting firm Cardano.

The governance framework of the UK pension fund industry is not ‘fit for purpose’ and needs a radical overhaul, wrote Cardano’s Stefan Lundbergh and Kerrin Rosenberg in a research paper.

The pair cited research showing funding deficits of defined benefit (DB) schemes had ballooned by £400bn (€458bn), with some 1,000 funds facing the prospect of entering the Pension Protection Fund (PPF) – an outcome Lundbergh and Rosenberg said was “entirely avoidable” had trustees adopted “tried and tested” risk and investment management tools.

Cardano has called for radical reform of pension funds’ governance structure, with the new framework mirroring the governance model that companies currently follow.

“To our minds, there is only one solution. We need to impose, quickly and effectively, a governance system that clearly assigns accountability for financial results and encourages robust risk management,” Lundbergh and Rosenberg said.

Cardano said the DB funding crisis could have been averted and schemes could have saved their corporate sponsors “billions” had they adopted more extensive interest rate and inflation risk management, through liability-driven investing and better-quality diversification that would have stabilised funding ratios.          

“The root cause is clear…. in a traditional pension fund set-up, no-one is truly accountable for the financial outcomes – neither the trustees nor the sponsor,” Cardano said.

To ensure “true accountability”, the firm said that trustees – appointed by member representatives and the sponsor – should be held accountable for the financial outcome of the scheme.

The core objectives of the trustees would be to set the strategy and to appoint and manage the day-to-day executive team along a set of key financial indicators, in much the same way as company boards.

An internal chief investment officer or an external fiduciary manager would act as the equivalent of a corporate’s executive team to ensure that the scheme meets pension promises without taking excessive financial risks.

“If we can seal off this governance gap, it will be a step change in helping trustees make the £1.5trn DB system, on which millions of people depend, more robust for the coming decades,” Lundbergh and Rosenberg said.

UK politicians have also recently called for governance rules and principles that currently apply to company boards to be extended to cover pension funds.

Cardano said that with so many DB schemes facing failure, a significant sudden downturn in financial markets or a prolonged period of asset underperformance could be the catalyst for that scenario to become a reality.

“It is therefore absolutely necessary to close the governance gap before the next financial crisis. This will help prevent unnecessary job losses and improve the probability that members’ pensions can be paid in full over the coming decades,” Lundbergh and Rosenberg concluded.

The full article, ‘Mind the governance gap’, can be accessed here.