It said to account for reputational risk from the stocks based on a company’s approach to tax.Funds should consider and engage on emerging risks such as those associated with climate change and cyber security.After turbulent years for companies from pension funds and other owners on the area of remuneration, the NAPF has also updated its policy to be more explicit about the issues it thinks members should consider.In September, the group began naming and shaming companies that had failed to acknowledge shareholder and NAPF member concerns on pay.The updated policy also no longer advocates the use of abstentions when voting at annual general meetings (AGMs), as the NAPF said it wanted to members to put more emphasis holding individuals to account for issues relevant to them.Corporate governance lead at the NAPF, Will Pomroy, said it was a natural role for the NAPF to express its expectations for pension funds and asset managers.“Members of the NAPF have a clear interest in promoting the success of the companies in which they invest,” he said.“We focus our efforts on maximising the long-term returns of our members’ assets, irrespective of the potential for short-term discomfort.“We strongly encourage shareholders to make systematic use of all of the powers at their disposal to support the highest standards of governance at the companies in which they invest.”In 2013, the NAPF, alongside the Financial Reporting Council, set up a stewardship framework asking asset managers to publish voting habits and activities.However, after only seeing 57 managers take part by March 2014, the pension fund group blasted the industry for not singing up. The UK’s National Association of Pension Funds (NAPF) has re-written its corporate governance policy for members as it looks to encourage schemes to be more considered when engaging with companies.Its corporate governance policy and voting guidelines are updated annually and aim to act as an impetus to schemes on how they communicate expectations to asset managers and proxy advisory firms.In the latest update, the NAPF has added the need for schemes to place greater focus on the personal responsibility of individuals elected to the board of companies, and holding these individuals to account.The guide called for a wider view of risks in the companies owned by pension fund members.
The feed-in tariff is for 15 years from the commissioning date, followed by a floor and cap-price mechanism for 5-7 additional years.“EDF EN is at the forefront of developing new renewable energy projects and markets,” Jensen said.“It will be a strategic long-term partner providing technical expertise and opportunities for the fund. EDF EN Portugal has a very enthusiastic and professional management team, which the fund is proud to be partnered with.”LCPF already owns stakes in infrastructure funds with some wind farm exposure.These include an investment in a 101 MW portfolio of landfill gas and coal mine methane electricity generation sites, and in two biomass power stations with a combined capacity of 68 MW. The fund has also provided £12m (€16.3m) to finance the Westmill Solar Cooperative, the first community-owned solar farm in the UK.LCPF does not identify renewables separately within its portfolio, although 12.5% of assets have been allocated to infrastructure, which includes a large element of renewables.These are seen as offering attractive long-term income returns.Jensen said the new investment was expected to provide long-term cash yields that exceeded its benchmark for infrastructure, which it said had been one of its best-performing investment allocations.For the year to 31 March, LCPF returned 14.9%, with an average portfolio value over the final quarter of £5.6bn.The fund has the capacity to add a small number of similarly sized direct or partnership investments to the infrastructure portfolio.Jensen said that, following the pooling of assets with the London Pensions Fund Authority, the pooled vehicle was likely to seek further such investments.Santander Corporate & Investment Banking (France & Portugal) and Uría Menéndez-Proença De Carvalho advised LCPF. Lancashire County Pension Fund (LCPF) has committed to its first direct wind farm investment, a significant minority equity stake in EDF Energies Nouvelles’ (EDF EN) Portuguese wind assets.The assets consist of interests in eight onshore wind farms in Northern Portugal with a gross capacity of around 500MW, ranking among the top five wind platforms in Portugal.Mike Jensen, CIO at LCPF, told IPE: “An investment in wind farms provides the fund with a long-term income stream likely to grow with inflation.“Portugal is an attractive location for wind farm installations, having a windy terrain, a stable feed-in-tariff regime and the support of local communities.”
The UK Pensions Regulator (TPR) has said it will take “bolder” steps to tackle risks stemming from the master trust market and soon revise the voluntary assurance framework for the sector.Lesley Titcomb, TPR’s chief executive, said bolder regulatory action was needed in light of emerging risks, including cyber crime and developments in the defined contribution (DC) market.She added that the regulator would be more “innovative” with the kind of support offered to trustee boards and sponsors.The regulator’s corporate plan for 2016-19 noted that large numbers of new pension savers – it estimated 71% of new savers in the seven years to December 2015 – now had accounts with master trusts, and that more than half of all DC savers were members of one of the four largest master trusts. While it stressed the benefits of scale of master trusts, noting that they were often better governed, it said it nonetheless had concerns about the risk of one of the schemes failing.“A major failure of a large master trust, having no sponsoring employer to support it, could result in members being forced to meet the administration costs as a result of its disorderly exit from the market,” the report says.“It would also leave potentially large numbers of employers needing to find alternative arrangements to comply with AE.“Alternatively, members of small master trust schemes risk becoming trapped in a scheme that attracts insufficient members or assets to be sustainable.”The regulator said that either of the above cases could lead to a loss of member savings and damage confidence in the market.As a result, it said it would “guide” employers to use providers regulated by the Financial Conduct Authority (FCA) or master trusts that had completed the master trust assurance framework designed by the Institute of Chartered Accountants in England and Wales (ICAEW).The regulator said it would work with the ICAEW to draw up a revised assurance framework, to comply with its revised DC code.The UK government has already pledged stricter regulation of the master trust sector.Andrew Warwick-Thompson, executive director for regulatory policy at TPR, previously told IPE the regulator needed to think “very hard” about how to prevent the number of master trusts rising further than the current 73 providers.While no concrete details have been announced, pensions minister Ros Altmann told the work and pensions select committee that either the regulator’s powers of intervention could be strengthened to protect members, or it could introduce “protections” to ensure members would not shoulder the cost of the disorderly collapse of a master trust.
Proposed rules from the UK’s Financial Conduct Authority (FCA) on the disclosure of transaction costs for pension investors have been welcomed by the industry but with a call for even more standardisation.The draft rules include obliging asset managers to reveal aggregate transaction costs to pension schemes investing directly or indirectly in their funds, as part of the overall aim to provide consistency across the market.Graham Vidler, director of external affairs at the Pensions and Lifetime Savings Association (PLSA), said: “Understanding the costs associated with buying and selling investments forms an important part of ensuring value for money is secured for pension savers. A key component of this is consistent disclosure of investment costs by asset managers.”Vidler added: “The PLSA welcomes the new duty the FCA is proposing to place on asset managers to ensure they are properly providing data to trustees and independent governance committees (IGCs). “It will be important to ensure this duty is proportionate and builds on existing conversations already taking place in the industry to agree common definitions and methodologies.”Peter Glancy, head of industry development at Scottish Widows, praised the FCA’s “pragmatic” approach.“This will ensure the effect of all charges is determined and communicated, leaving scope for IGCs and trustees to have more detailed conversations in relation to the granularity of the make-up of the total costs,” he said.“A quantitative analysis in conjunction with qualitative discussion is likely to be the best means of IGCs and trustees determining the extent to which transaction costs are influencing value for money.” He also said IGCs and trustees needed to have more specific information about the dilution effect of trading, and to know how far scheme members had benefited by revenues generated through stock lending.As part of the draft rules, the FCA proposes a specific methodology for evaluating the slippage cost within transactions – broadly speaking, the difference between the price at which a deal is actually executed, and the price when the order to transact entered the market.Glancy said: “We are pleased the FCA has developed a pragmatic approach to the calculation of a slippage cost, which considers the questions on the dilution effect, and that they also propose to show separately any revenue from stock lending that is not passed on to scheme members.”However, Jacqui Reid, associate director at Sackers, said: “While it acknowledges the importance of a standardised approach to calculation, the FCA is not proposing a standard format for disclosure. In our experience, this is key.”She added: “There is a balance to be struck between a form of disclosure that is meaningful enough for useful and direct comparisons across the market, but not difficult to decipher, and inefficient and costly for managers to implement.”Richard Butcher, managing director at Pitmans Trustees, agreed: “We question whether the FCA has gone far enough with its proposals. While the FCA sets out a standardised method for calculating transaction costs, it does not set out a standardised method for reporting them.“If disclosure can be bespoke, a risk is created that managers can spin the outcome and hide inconvenient truths. It also means trustees and IGCs cannot compare one manager with another – and an inability to compare undermines the point of disclosure.”He also expressed concern about how the new rules fit in with the charges and governance regulations, which require trustees to consider “the costs incurred as a result of the buying, selling, lending or borrowing of investments”.Butcher said: “What is proposed is that they see the amalgamated effect of these costs, not the costs themselves – or, at least, not all of them.“While simplicity is often a virtue, I would argue that what has been proposed may not help trustees to comply with the law.”
Considering that Gilt yields are even lower in 2016 than they were in 2012, the attractions of such a policy are even greater, as the running yield is now even higher. It would, of course, be a state-owned hedge fund in effect but with the proviso that the state can always print more sterling if the assets become less than the liabilities.The debate and discussion on the idea of a UK sovereign wealth fund encompasses a number of different strands. Will Hutton, president of Hertford College Oxford University and former editor of the Observer, and his colleagues at the Big Innovation Centre are arguing the case for a fund as a mechanism of creating greater long-term stakes in UK companies, to create more “purposeful” companies in the UK.With 30-year Gilts yielding around 2% in December 2016, in the extreme case, the government could even look to issue perpetual-dated Gilts at not much more. Investing the proceeds in companies – with the explicit announcement that there would be no intention of ever selling – would be an attractive way of encouraging long-term stakes and also producing a running yield if the companies can pay dividends of more than running yield on the Gilts used to finance the investments.There is another aspect worth considering as well. Pension funds are being effectively forced to invest in nominal and index-linked Gilts rather than equities despite the dramatic reduction in yields this entails. The reasons have been well discussed – some would argue it is a form of financial repression, driven by a mixture of accounting, regulatory issues and the underlying movement that has set in stone pension liabilities.The net result is that matching pension liabilities is seen as a risk-management issue rather than an investment issue, so pricing of debt has become irrelevant. Pension funds are, therefore, unable to invest in long-term risky assets, whether in the UK or overseas, despite having long-term liabilities.But the ultimate risk-taker in a country is the state itself. A UK sovereign wealth fund financed by issuing Gilts sold to UK pension funds would, in effect, be acting as an intermediary, guaranteeing pension funds the ability to meet their liabilities while generating much higher cashflows from elsewhere. Insurance companies are already developing attractive businesses buying out pension schemes and competitively pricing them through their own ability to take on additional investment risks. The sovereign wealth fund would be indirectly performing the same function.At some stage, the fund could, of course, do this directly if it could issue debt with a sovereign guarantee. Imagine that – a sovereign wealth fund that hoovers up pension fund assets and reinvests them in risky long-term, but higher-return, investments while giving pension funds a guaranteed liability-driven set of investments.Joseph Mariathasan is a contributing editor at IPE The ultimate risk-taker – the state itself – could give UK pension funds a real boost, writes Joseph MariathasanThere is an increasing level of interest in the UK about the idea of setting up a UK sovereign wealth fund, with the House of Commons debating the idea on 14 December. One of the briefing papers for the debate was an article I wrote in 2012 for IPE. In the article, I suggested that, given an ageing population, the UK should set up a sovereign wealth fund to add to tier-one pension provisions.As MPs pointed out in the recent debate, there is an issue of inter-generational fairness when it comes to allocating resources within a country. An increasing ageing population cannot expect to rely on the Ponzi-type economics of taxing a declining younger population for future pensions.I suggested that the existence of ultra-low Gilt yields did give the UK government one attractive option – that is, to issue a large amount of long-dated Gilts and invest the proceeds in emerging market equities that actually have higher dividend yields than bond yields. The dividends would, in effect, be produced by younger populations outside the UK.
According to a report presented to the board of the Strathclyde Pension Fund earlier this month, the review is likely to consider options including increasing shared services, pooling of investment assets or full mergers.Respecting the current LGPS structure, Strathclyde’s head of pensions Richard McIndoe said in the report: “There are weaknesses … in terms of cost effectiveness, resource and expertise, particularly among the smaller funds.”He added that “there may be more scope” for sharing procurement of investment consultants or managers.Ian Blackford, the Scottish National Party’s (SNP) pensions spokesman, said in a debate in parliament in London in October that Scotland’s leaders were “committed” to removing barriers to LGPS funds investing in infrastructure.“The SNP-led Scottish government is committed to changing pension scheme regulations to ensure they are not a barrier to local government pension schemes investing in infrastructure, and they are working with the scheme advisory board to achieve that,” he said. “We in Scotland realise there needs to be more of a balance between encouraging that approach and paying due regard to the responsibility of scheme managers to invest pension fund money in accordance with the scheme managers’ fiduciary duty. The Scottish government is committed to achieving that delicate balance.”Elsewhere in the UK, work is underway to combine assets across 89 LGPS funds in England and Wales into eight larger pools.However, a Scottish government report published in November 2015 said politicians were “less attracted to the UK’s formal pooling arrangements”, instead preferring “informal” collaborations.The Falkirk and Lothian pension funds already collaborate on infrastructure investment and are considering expanding this partnership to other asset classes.A previous review of Scotland’s public pensions, conducted by Deloitte and concluded in 2011, recommended more collaboration between pension funds.However, it said the cost savings from the more radical options – such as merging the 11 funds into three larger vehicles – would not be significant.At £16bn, Strathclyde Pension Fund is the largest of Scotland’s LGPS funds, representing almost half (46.5%) of the country’s total LGPS assets.Four funds have less than £1bn in assets.In total, during 2015-16, the 11 funds spent £170m in investment management fees, according to their annual reports.This represented less than 0.5% of assets under management. Scotland’s local government pension funds are to consider increased pooling of assets as part of a government-backed review.In a move that has echoes of the reforms underway south of the border, in February, Scotland’s local government pension scheme (LGPS) advisory board will present options to increase efficiency at the 11 public funds.A public consultation will follow, with the results presented to the Scottish government later in the year.A spokesperson for the Convention of Scottish Local Authorities – one of the organisations feeding in to the initial discussions – confirmed the review and told IPE that, “in terms of options, the review is open, and nothing is ruled out”.
Norway’s largest municipal pension fund Oslo Pensjonsforsiking (OPF) produced a 2.8% value-adjusted return on customer funds in the first three months of this year.This was driven by gains from infrastructure and equities, which generated 8.1% and 7.0% respectively. All asset classes produced positive returns, the fund reported.The Q1 portfolio return compared to a 0.3% return in first quarter of 2016.Åmund Lunde, OPF’s chief executive, said: “It is quite possible to create a good return for customers – also in the form of defined benefit pensions, but it requires good solidity and long-term management.” OPF said in its interim report that in 2016, it had finished a three-year build up of reserves to provide for lower mortality rates, having put aside NOK246m (€26.3m) in that period.The conclusion of this provisioning process had improved results in the pensions insurance division by NOK20-21m each quarter in a year-on-year comparison.The company’s solvency capital rose 4% in absolute terms in the first quarter, but ticked lower as a ratio to 482% in the first quarter from 490% at the end of 2016, after the capital requirement increased by 6% since the end of last year.Total group assets increased to NOK85.8bn at the end of March.Sweden’s AMF warns on interest rate impactIn other Nordic news, Sweden’s second largest pension fund AMF posted a 2.5% return in the first quarter on the back of buoyancy in domestic and foreign equity markets.In the same period last year, AMF’s investments lost 0.7%.Javiera Ragnartz, CIO at AMF, said: “The period was marked by improved growth in the world economy and good economic development at home, which contributed to strong development for Swedish as well as foreign equities.“At the same time, low interest rates continue to pose challenges because uncertainty about long-term economic development persists, and there are a number of political risks which could affect the markets in the future.”AMF’s solvency ratio dipped to 193% at the end of March from 199% at the end of December.The group’s total assets under management rose to SEK582bn (€60.4bn) from SEK563bn at the end of December.
“Our ambition is to further broaden and integrate the analysis of sustainability aspects as part of our investment process, both in terms of risks and business opportunities,” Ekvall said.In the first half of this year, AP4 made a return of 5.2% after costs, the fund reported.In absolute terms, the result was nearly SEK17bn, it said, bringing total fund capital up to SEK348bn from SEK334bn at the end of December.Seen over the past 10 years, AP4’s return after costs had been on average 6.5% a year, it said.Both domestic and international listed equities contributed strongly to the six-month return, with returns of 11.7% and 8.7% respectively, AP4 said.Real estate produced a positive return of 10.4% but fixed interest investments were only just positive with a 0.3% return between January and June, the pension fund said.A stronger Swedish krona had had a negative impact on returns in the period, it said. AP4, one of Sweden’s four main buffer funds in the national pension system, is aiming to increase the proportion of its equities portfolio that is invested in low-carbon strategies.Its target is to have 30% of its equity investments in low carbon investments by the end of this year.Niklas Ekvall, chief executive of AP4, said: “Our low-carbon strategies, which reduce the climate risk in the assets, have now increased to 27 percent of the global equity portfolio with a target to reach 30 percent by the end of 2017.”The SEK348bn (€36.4bn) pension fund’s focus on sustainability was continuing and constantly evolving, he said.
Investors have been searching more for emerging markets and Asia-focused equity managers than they have for US equity managers in the past 12 months, according to consultancy bfinance.In the year to 1 October, 28% of all the consultant’s equity manager selection projects were for emerging markets, compared with 15% in the previous year.Asia was the most popular regional allocation, but not just the continent’s emerging economies as investors were also drawn to Japanese equity and broad Asia equity.Last year, in contrast, global equity mandates made up almost 40% of the total number of new equity mandates – now 24% – and the US was the most popular regional target, according to bfinance. Smart beta was the focus of only 10% of new mandate activity in the past 12 months, having been one of the most popular segments in the 2014-16 period.Justin Preston, senior director and head of equity at bfinance, said: “The shift in new equity manager selection patterns among bfinance clients has really been very significant, particularly the move towards emerging markets, Asia and Japan.”The consultancy said environmental, social and governance (ESG) considerations were seen as increasingly relevant for emerging market equity allocations. Integrating ESG did not have to cost extra, bfinance said.In general, emerging market managers have kept their fees steady in 2017, with few dropping their prices compared with last year, it noted. The median fee quoted for global emerging market searches in 2017 so far was 69bps, before negotiation, while the median quoted fee for ESG-specific searches was just above 70bps.Mandate size and structure made a much bigger difference to fees, said the consultancy.
Valuing pension fund liabilities based on index-linked gilt yields is useful as an accounting device. It is a mathematical exercise based on two assumptions: Firstly, that a government-backed risk-free yield is the correct rate to discount future liabilities. Secondly, there is an implicit assumption that all pension funds can match liabilities exactly using the index-linked gilt market. What the valuation is not is an economic truth.The second assumption is patently not true given that the size of the pension fund liabilities is four times that of the total index-linked market: The size of the UK index-linked gilt market is around £400bn (€452bn) while the UK’s defined benefit pension schemes have a combined liability of around £1.6trn.Therefore the idea that the methodology for providing an accounting valuation of pension fund liabilities should be the basis for the strategy used to manage them cannot be sensible either. It is impossible for all pension funds to be able to acquire enough index-linked gilts to be able to do so. The reason why index-linked real yields are negative is because of demand from schemes under pressure to match estimated liabilities with expensive bonds with exact cashflows, irrespective of the price. The strategy suffers from, as the actuary in the sheep joke, the lack of incorporation of error margins.The ‘present value’ calculation of liabilities incorporates a number of estimates, each of which has its own error margin. As any physicist knows, these error margins need to be published along with the measurement itself. If error margins in liabilities are large, then adopting an approach of approximate matching using asset classes such as equities and other assets aimed at producing high long-term absolute returns with given levels of risk may be more sensible than investing in bonds with precise cashflows to match liabilities with much more imprecise cashflows.Investors may be better off (even in an LDI context) with approximate matches that are cheap, rather than purchasing expensive and precisely tailored cashflows via sovereign debt to match liability streams that are themselves only imperfectly defined.The idea that LDI is purely a risk management problem needs to take this into account. The controversies over schemes such as the Universities Superannuation Scheme can then be understood as at least partly arising from a collision between an accounting methodology designed for book-keeping and economic realities.Sometimes measurements can be misleading. Focusing on solutions based on flawed measurements is bit like the story of the actuary found on his knees searching round a lamp post in the middle of the night. When asked by a passer-by what he was doing, he replied that he was searching for his phone which he had dropped in the fields opposite. When asked why he was therefore looking under the lamp post, he replied: “Because there is more light here.”If analysis and management of financial issues requires a rigorous scientific approach, then understanding the flaws, assumption failures and error margins in measurements is a pre-requisite. Otherwise, you may be scrambling around where there appears to be light, but you won’t find what you are looking for. ‘You can only manage what you can measure’ is a fundamental plank of any management approach – but if too much credence is given to the measurements themselves without understanding their limitations, it can create chaos.One of the more revealing actuarial jokes I have heard (told to me by an actuary), was the story of an actuary standing next to a farmer who was surveying the sheep grazing in his fields. “How many sheep do you think I have?” asked the farmer. The actuary, after a few moments’ thought, answered: “1,007.” The farmer looked astonished and asked the actuary how on earth he was able to get a precise answer so quickly. To which the actuary answered: “It was quite simple, you must have around 1,000 in that field in the distance, and you have seven sheep in the field next to us, so adding them together gives a thousand and seven.”That type of thinking perhaps underlies many of the issues relating to liability-driven investment (LDI) and the concept of matching estimated long-term liabilities with expensive risk-free bonds.