mast image

Impact Investing

IPE special report May 2018

Sections

Using independent professionals

Pension funds will in future be required to be “effectively run by persons of good repute who must themselves have appropriate professional qualifications and experience or employ advisers with appropriate professional qualifications and experience”. This was a key ingredient of the proposal for a directive on the activities of institutions for occupational retirement provision (article 9) drafted by the European Commission last October.
Occupational pension schemes differ strongly across Europe in their exact institutional set up and national regulation – and will do so for some time. However, “competence and good repute of managers, directors and all persons controlling the institutions” are, as stated in the explanatory memorandum to this draft directive, necessary conditions for adequate protection of members and beneficiaries of pension schemes.
These requirements will have far-reaching consequences for a topic that has been in the shadow for so long: the governance of pension funds. There are a variety of issues in this respect that surely will be discussed over the next months and years. In this article, we concentrate on the role and added value of professional and independent pension scheme directors.

Professional and independent directors
What are they? To a large extent, an independent, professional pension scheme director is to a pension fund what the non-executive director is to a company. But before we go into the concept in more detail, let us ask a simple question. What would we broadly expect from a good director in general? Surely, we would like to see guidance and direction, strong management skills and thorough controls. In addition, a non-executive director is expected to add a broader set of experience not available inside the business, keep the eye on the essentials and take a more detached view on issues of conflict.
In particular, in the world of pensions, we are dealing with other people’s money - older people’s pensions and younger people’s promises of future income. Therefore, pension scheme directors will have to share some additional characteristics. Attributes like trust and assurance spring to mind, but also specific expertise on complex pension issues.
Finally, what is a professional pension scheme director? A general answer to this question is the combination of the two characteristics: the role of a non-executive director, but with special technical knowledge and professional skills in this field.
The first key aspect here is professionalism. This includes familiarity with the wide range of issues involved in pension management: investment and risk, actuarial, legal and regulatory, and last, but not least, administrative. Specialist skills as well as experience gained over time with similar pension funds are brought in to the benefit of the scheme - by avoiding ‘re-inventing the wheel’.
Independence is the second key aspect. This means no direct or indirect financial interests and hence, no conflicts of interest. The independent director can take an objective and impartial view and facilitate practical solutions in case of conflicting interests that they may recognise but others do not. Strong judgement is necessary, for example, in finding the right balance between contributors and beneficiaries, or between today’s and tomorrow’s interests in a world of uncertainty.
The exact form of such services varies across Europe and globally, as do the pension systems. Language has a role to play in this, too, as the independent professional pension scheme directors can be labelled in various ways, like pension fund director, investment fund director, fiduciary, independent trustee and so on.

Benefits to the pension scheme
Company executives as well as member or worker’s representatives often lack the particular experience or knowledge required in pension management. Also, their full attention to pension governance responsibilities may not be given at busy times. Often, there is high turnover in members of the boards and a loss of continuity. Naturally, there are areas of difference between the scheme and individual or group interests. All this offers the scope for having professional pension scheme directors. Let us mention three main areas of value added as examples:
q Dealing with conflicts of interest Conflicting interests between the sponsoring company, active members or pensioners are a matter of fact in pension schemes. Here an independent director has a clear understanding of them and can facilitate a resolution of crucial issues.
q Making efficient use of advisors and delegates Professional fiduciaries can have a much better awareness of the relative expertise and specialities of external advisers or delegates, for example lawyers, actuaries, fund managers. Making efficient use of good advice is as important as getting it in the first place. This can save valuable time for people responsible as well as money for the scheme.
q Handling corporate change and unexpected situations The professional director can give guidance in difficult periods of corporate change such as mergers, take-overs or even wind-ups, and can draw from similar experiences with other pension funds. How to react to new situations? The professional trustee is able to use the pool of skills and experiences of a professional team.
In a nutshell, the professional and independent director is fully devoted to dealing with all aspects of pension issues and this provides benefits and reassurance to employers, employees and pensioners.

Trustees in British pension funds
As an example, let us now look to a country with a well-defined institution in pension scheme management, the independent trustee in the UK. Occupational pensions are the cornerstone of the British pension system with assets of around £1,000bn (e1,560bn). These pension funds are established as ‘trusts’, that is separate legal entities funded by contributions of employers and employees and governed by a board of ‘trustees’.
Now, what is a trust and what are trustees? A trust is an arrangement under which people called trustees hold property for the benefit of the beneficiaries. The trustees have the legal obligation to control and administer the trust solely for the purposes specified. In this case, the purpose is to provide benefits of a particular company pension scheme.
Trustees have to operate in accordance with the (broad) principles of British trust law. The main duties of the trustees are to comply with the trust deed and rules; act prudently, conscientiously and honestly and in good faith; act in the best interest of beneficiaries and serve all classes of beneficiaries fairly; take advice on specialist subjects, for example in legal and actuarial questions. In addition to trust law, pension funds are subject to an increasing burden of UK statutory law, UK contract law and European law.

Trusteeship in practice
These are still very general principles but what do UK pension fund trustees exactly do? They are responsible for the collection of contributions, the investment of assets, the maintenance of proper records, the provision of information, and the payment of pensions. These responsibilities are normally delegated:
q the administration of the pension plan to a dedicated administrator
q the investment of funds to one or more external fund managers
q custody of the fund to a custodian
q performance measurement and risk analysis to specialist providers.
The trustees also require a range of appointed external advisors such as such as actuaries, auditors, lawyers, investment advisers etc. All these responsibilities, delegated or not, need to be carefully managed by the board of trustees.
Let us look at one key area in practice: investment. The trustees will firstly determine the investment strategy. Then they will adopt a Statement of Investment Principles and monitor compliance with it. Fund managers, who must be authorised, are required to regularly report to the trustees on key investment parameters such as: performance, activity in portfolio, asset allocation, major single investment positions, key risk statistics, voting, exercise of the trustee policy on corporate governance and socially responsible investments. The ultimate responsibility for investment, however, remains with the trustees.

Corporate trustees
Traditionally, UK trustees are executives, members or pensioners of the company sponsoring the pension scheme and therefore often distracted by other duties. Therefore, many companies have decided to appoint one or more independent trustees in the UK in order to improve governance in a critical area of corporate strategy. The contribution of an effective independent trustee is in providing professional expertise within the board.
Independent trustees can be individuals or corporates. However, there are clear advantages for a company specialising in trustee services.
George Inderst is a director of Law Debenture Pension Trust Corporation in London

Have your say

You must sign in to make a comment

IPE QUEST

Your first step in manager selection...

IPE Quest is a manager search facility that connects institutional investors and asset managers.

  • RE-2441

    Closing date: 2018-05-31.

Begin Your Search Here