“Governance plays a big role in success (in pension funds),” he told Pensions & Investments in an exclusive interview at the firm's London-based offices. “Those able to hire professional managers, chief investment officers, and have proper governance are doing better” than those that do not.
Mr. Formica also has a view on the issue of size: “I favor consolidation among pension funds — one of the ways to have proper governance is to have scale. There are too many small pension funds over here (in the U.K.) that could do with being grouped together.”
In discussing the U.K.'s recently announced budget changes, which will remove the requirement for defined contribution plan participants to purchase an individual annuity to fund retirement, Mr. Formica's views on governance and policy in DC plans shine through.
“I also favor compulsory pensions and superannuation — U.K. employees are not going to save enough unless they have that compulsion.”
He said work has been done on DC, taking the lack of governance from “the biggest area I would complain about” three years ago, to just one of the issues. “DC funds have to have daily priced assets — why?” That restricts a fund's investments and potentially its returns. “Particularly in the default fund; by being daily priced, we are reducing the ability to have real estate and infrastructure and other asset classes in there.”
Mr. Formica's concerns over defined contribution plans reflect the fact that he believes the U.K. is at a “tipping point — the U.K. in 2018-2019 will have a match between DB and DC (in terms of assets).” By 2030, DC plans are set to account for 95% of all retirement assets in the U.K.
For inspiration, the U.K. should look overseas, to the U.S. and Australia, for examples of how to cater to a large DC market.
Turning to the hot topic of active vs. passive management, Mr. Formica is not concerned that passive and its “smart beta” brethren are gaining traction.
“Passive investment is only going to grow,” he said. “We compete in active — you won't see us move into passive. We don't feel we need to do that.”
In fact, the more successful passive becomes, the more successful active management will be, he said, as there will be “less money chasing the same active opportunities. You cannot compare active and passive — there is nothing wrong with that market, but if you are creating a Maserati, you are not going to look at the Ford Focus for comparison.”
But the trend does put pressure on active managers to justify their fees. “We have to deliver. We cannot be close to the benchmark,” he said.
This article originally appeared in the July 7, 2014 print issue as, "Governance key for Henderson CEO".