Two recent articles "More firms strive to become one-stop shop" (Pensions & Investments, June 25) and "When watchdogs go astray" (Industry Voices, pionline.com, July 9) are about two different topics; as stand-alone pieces, they are just that. When looking through a different lens, one that places them side by side, the rapid growth of outsourced CIOs in the pension market is analogous to the Big Four monopoly in the audit space, with both services requiring the need to be closely monitored to protect plan sponsors, plan participants and investors.
While the Big Four's market dominance already has occurred, the pace at which the OCIO discretionary assets under management is growing is putting more power and control in the hands of an increasingly concentrated group of companies. According to P&I's recent survey of outsourcing managers, BlackRock, Goldman Sachs Asset Management, Morgan Stanley Investment Management, Northern Trust Asset Management, State Street Global Advisors and many others are being given discretionary authority over assets exceeding $2 trillion, with that number to possibly exceed $4 trillion by the end of 2023.
As referenced in the P&I piece "Consulting, OCIO review gets qualified thumbs up," the genesis of the U.K.'s Competition and Markets Authority's provisional decision report, published on July 18, was the Financial Conduct Authority's investigation referral due to competition concerns in the investment consulting and OCIO sectors, and the growing influence on retirement plan assets.
While there are tremendous benefits to the OCIO model being employed, there also exists great opacity, as well as the need to properly monitor tactics and fees. There are some OCIO-specific characteristics that speak to the need for a deep level of scrutiny, which can often not be managed in-house due to factors such as competing priorities, resource constraints, lack of subject matter expertise or some combination of all.
It comes as no surprise that the CMA report referenced above called out for greater clarity surrounding fees and called out the need for the unbundling of fees and "minimum fee requirements for fee disclosures for prospective clients."
Complex agreements and bundled fee structures make it time-consuming and difficult for even the most competent of pension executives to fully analyze fees and develop a true cost to their OCIO relationship (including non-obvious income gained by their provider). Given this bundled-fee structure, the OCIO's ability to place mandates with their own funds, or funds of funds, has the potential to create conflicts of interest that are within regulatory boundaries. As stated by Mr. Gervaise Jones of bfinance in the July 23 article, the CMA report provides "little comment on investment consultants providing advice that results in clients utilizing asset management products managed by the same consultant."
If one of the many duties of an OCIO is ensuring that all pension expenses align with ERISA section 408(b)(2), it begs the question, "Who is monitoring the OCIO fees?" Without the bandwidth and expertise internally, it is not possible to properly benchmark even the most overt OCIO fees, let alone the opaque.
Along the same lines, but more closely related to the practice of self-allocation: Who determines the "reasonableness" of fees of the selected underlying managers relative to mandate size and performance? If OCIOs are leveraging their own managers, are they underperforming and expensive relative to their peers, and if so, what actions can or should be taken? Are OCIOs less inclined to be creative with fee structures, such as performance-based models, when they are self-allocating?
When employed and monitored properly, the OCIO model can be highly effective under all degrees of discretion. The anticipated growth and consolidation in this industry will only further the need for monitoring diligence and the implementation of programs or controls to do so. It would seem that now is a good time for pension managers to consider taking this on so that in a few years we are not reading a P&I piece called "When OCIOs go astray."