U.K. pension funds team up

Executives at two U.K. pension funds are spending the summer preparing their application to the Financial Conduct Authority for authorization to create a more than £10 billion ($15.5 billion) asset and liability management partnership, a move one fund CEO anticipates will bring more assets in-house.

This month, the London Pensions Fund Authority, with £4.9 billion of assets, and the Lancashire County Pension Fund, with £5.2 billion of assets, said they will go ahead with the Lancashire and London Pensions Partnership, aiming for a start in April 2016.

Cost savings and increased investment opportunities through scale are two aims in the collaboration. Executives at the funds anticipate combined savings “in excess of £32 million (over the next five years) — that is just what we can do with some of the fees and taking management in-house,” said Susan Martin, CEO at LPFA, in an exclusive interview at the pension fund’s office in London. “We are confident we can do more than that. From a business case, it was self-evident that this is going to save money. We are doing this to save money, close the funding gap, (and) provide better service for employers and members.” LPFA is 92% funded.

To achieve these aims, executives anticipate adding staff as in-house capabilities expand.

The collaboration will cover all aspects of pension fund management, and will become — if authorization is granted by the U.K.’s FCA — a fully fledged pension service organization. The two funds will retain their separate identities and local accountability while having jointly managed administration and pooled asset and liability management. The hope is that these services eventually will be extended to other Local Government Pension Scheme funds.

Ms. Martin became CEO of LPFA in December 2013. She began informal talks with executives at a number of LGPS member funds “very early last year,” while Lancashire executives were talking to others, too. “It became apparent toward mid-last year … and became clear this was the appropriate tie-in. We announced in December, but had done a lot of work beforehand to sound each other out.”

Things are moving fast. Last week, the two pension funds launched a search for a provider of global custody and other services. They also started looking for an independent chairperson and non-executive directors.

Gaining FCA authorization — LLPP is aiming for November application — is a huge piece of work. “We have to set up a depository, create a five-year business plan, (fill out) compliance documents … that has been helped by the fact that LPFA, in the early part of last year, went through a mock FCA process. And we got a big tick from that. We are using it and translating it into this partnership. But it is a huge task,” said Ms. Martin.

The development of LLPP comes at a time when the local authority pension fund landscape is in a state of flux. The industry is awaiting the results of a comment paper, published May 2014 by the U.K. government, examining future of the 89 pension funds, and about £180 billion of assets.

“I don’t anticipate anything will derail us (as a result of the comment paper). We have been working closely with the Department of Communities and Local Government, and offer what we have learned through this process to others. We don’t believe that this is the only game in town — but it is the right approach for our two funds, and for others should they wish to join us,” said Ms. Martin.

LLPP will start with just more than £10 billion of assets, “but we have ambitions to bring more onto it — we are hoping to have an investment pool of just over £40 billion” through further partnerships, said Ms. Martin.

Others may come on board with LLPP through a variety of collaborative efforts – via LLPP’s in-house investment strategies, administration offerings or employer covenant work. “We have had quite a bit of interest, and we want to get this right. But it is very early days,” said Ms. Martin.

Executives working across the collaboration of the two funds — which Ms. Martin highlights is on top of “very busy day jobs” and “is not something for the faint-hearted” — are aware of each pension fund’s in-house strengths.

Ms. Martin acknowledged LPFA is known for its public equities and private equity expertise. One move in particular demonstrates the value of its in-house management, with LPFA bringing some equities assets in-house over the past year or so. The buy-and-hold strategy has about £417 million of assets, according to the latest annual report. The development of the in-house strategy followed a decision that an equities portfolio run by Newton Investment Management “no (longer) fitted in our investment strategy and we would develop a new internally managed ‘buy-and-hold’ equity strategy of large global stocks to capture high quality and sustainable investment return,” said the 2014 fiscal year annual report.

“As we started to bring (assets) in-house and (launched the strategy), we saved ourselves about £3.3 million,” said Ms. Martin.

Lancashire, meanwhile, has particular expertise in infrastructure. “We would anticipate in the new organization doing more equities in-house, more infrastructure, co-investments, (and) private equity,” she said. LPFA already has a partnership with the how big £16 billion Greater Manchester Pension Fund to jointly allocate up to £500 million to invest in infrastructure opportunities.

On the to-do list for LLPP is looking at the external managers employed across both pension funds. “We already co-invest and do things similarly, but we are building on that and sharing information. We are taking a structured approach to how we pool the funds and where we invest next — it is not a big-bang approach. We are trying to get better returns than what is on offer at the moment. We believe we can do that by doing more in-house, or with more like-minded partners and co-investment. I see more equities (being managed) in-house, but I’m not saying we will (move all equities in-house),” she said.

Ms. Martin said executives realize the targeted pool of £40 billion — let alone the current £10 billion — is “not big enough to do everything in-house.”

Rationalizing the asset and liability management of the pension funds does not mean rationalizing staff numbers, said Ms. Martin. Rather the opposite is true. “People talk about efficiency and think it means redundancy. But neither fund currently has the right resource in investment — we have worked together to say we need this, we need that — do we have that between us? No? Let’s go out and get someone,” she said.

An intention to increase investment in alternative asset classes — LPFA will increase allocation to illiquid assets to 30% by 2016 from 16.5% — as well as bring more investment management in-house also affects the back office. “The more (you invest in alternatives and in-house), the greater your risk management and back office has to be, and the greater your governance. It is better use of money, and we will get more for less.”