The Competition and Markets Authority's legally binding order is a welcome step in strengthening the regulatory regime governing fiduciary management services for pension schemes in the U.K. However, more work still needs to be done, both by regulators and scheme trustees, to ensure every scheme receives the best possible service, in the best interests of its members.
The CMA order issued in June 2019 marked the final step of the industry body's reform of the investment consultancy and fiduciary management sectors. As part of the new reforms, pension scheme trustees who wish to delegate investment decisions for 20% or more of their schemes must run a competitive tender, while fiduciary management firms must provide new customers with more information on their fees and performance.
Fiduciary management, when functioning properly, is a crucial tool, enabling timely and dynamic management of pension scheme assets. The CMA estimates that fiduciary management providers were managing around £110 billion ($147.8 billion) in assets in the U.K. during 2017 — and that almost two-thirds (61%) of fiduciary management mandates are for all of a pension scheme's assets. But scheme trustees have not always been able (or particularly willing) to monitor or assess the work of firms providing fiduciary management. A widespread failure or inability to do this was identified as a key problem in the final report of the CMA's Investment Consultants Market Investigation, published in December.
The report suggested that firms providing both investment consultancy and fiduciary management have a strong incumbency advantage, in part because investment consultants have often guided advisory customers toward using their fiduciary management solution. The CMA's research suggests that about half of all the pension schemes that use fiduciary management services have appointed their current investment consultant to provide those services. Only 14% of this group conducted a formal tendering process before doing so; and only 1 in 3 (34%) of all the pension schemes that use fiduciary management services went through a tender process before appointing a provider.
It is also worth noting that fiduciary management fees tend to be higher — sometimes four or five times as high — as fees for investment consultancy. The CMA found that the fiduciary management market is growing quickly and although market share is distributed fairly evenly at present, there is a risk that competition in this market could be stifled by the actions of some service providers.
The ICMI report concluded that information made available to scheme trustees describing firms' fees and past performance was not always available or lacked clarity, in part because fees for fiduciary management and asset management were often bundled together. Many clients are not notified regularly of the fees they pay to a fiduciary management provider for investment products; performance has often been reported on a gross of fees basis; and many submissions to tender documents have not included information about the full costs of transitioning into and out of these services.
Unsurprisingly, these omissions make it difficult for schemes to assess value for money, or to compare fees between different providers or services. The CMA noted in the ICMI report that "it is difficult for many customers to access and assess the information they need ... to identify if they would be better off using an alternative provider … (reducing) customers' ability to drive competition between fiduciary managers ... In turn, this may be expected to result in substantial customer detriment in the market."
The CMA proposed a series of remedies to address problems identified in the ICMI report. The remedies include the introduction of mandatory tendering when pension scheme trustees first purchase fiduciary management services; and a requirement to run a competitive tender within five years if a fiduciary management mandate for 20% or more of scheme assets has been awarded without one.
Fiduciary management providers must also now publish clear information on fees and performance that will enable comparisons between providers and services. They must give trustees an annual fee statement, with underlying asset management fees itemized on a fund by fund basis, alongside details of other investment and administration charges. They must disclose potential exit costs that would apply if the trustees terminated the fiduciary arrangement.
Investment consultants must also now separate marketing of fiduciary management services from the provision of investment advice services. Marketing material must be labeled clearly on the front page, using CMA-prescribed wording, explaining that it does not represent impartial advice and a competitive tender should usually be conducted before a fiduciary manager is appointed.
A Fiduciary Management Performance Standard is being developed by the CFA Institute. Once approved by the CMA, all fiduciary managers will need to use this standard when providing information on past investment performance, including within tender submissions and marketing materials.
At Buck, we believe the requirement to conduct competitive tendering prior to selecting a fiduciary manager is a particularly welcome change. We have also expressed concern in the past about a lack of transparency in relation to disclosure of fees and performance information, so we are pleased that this too is being addressed.
But while the new measures are welcome, they are not perfect. For example, we regret the fact that there is no specific requirement for trustees to take advice on whether a fiduciary management product is suitable for a scheme's investment needs — meaning there is still a risk that schemes will end up with an investment product that do not meet their requirements.
This is a significant risk due to the deep conflicts which exist with third party evaluators. Some "independent" evaluators who stand to make commercial gains from trustees entering into any form of fiduciary mandate frequently fail to mention the potential risks of contracting with a fiduciary manager, such as the difficulty in terminating an investment product, ultimately resulting in a lack of exit strategy.
Trustees must consider carefully if and how the problems identified in the ICMI report apply to their scheme's use of fiduciary management and investment consultancy services. Clearly, many pension schemes have entered into fiduciary arrangements without trustees having a complete understanding of the potential costs the scheme might incur or the risks to which its members might be exposed.
Whatever the current circumstances of a scheme's fiduciary arrangements, the results of this investigation show that trustees must review those arrangements regularly. Most importantly, it highlights not just how to select a fiduciary product, but also whether trustees should be asking themselves which governance model is the most appropriate for their needs. Trustees' governance model should not be product led, but objectives led. As with all investment products, if trustees get their core principles right, they will naturally guide you onto the right path. The rest is just business.
Celene Lee is principal and senior investment consultant at Buck Global LLC, London. This content represents the views of the author. It was submitted and edited under Pensions & Investments guidelines, but is not a product of P&I's editorial team.