Plans expect busy bidding spell for U.K. fiduciary management

U.K. pension plan trustees seeking to delegate investment decisions face new rules starting Dec. 10 that will require them to carry out competitive tendering before selecting a fiduciary manager to invest 20% or more of the plan's assets.

The rules apply not only to new appointments but to a plan's existing managers if they haven't been hired through a competitive bid.

The new Competition and Market Authority's requirements are expected to result in a glut of new tenders, which is likely to substantially outpace recent levels, said Pieter Steyn, London-based head of delegated investment services U.K. at Willis Towers Watson PLC.

According to the annual 2019 KPMG U.K. fiduciary management survey, released last month, mandates for full fiduciary management increased by 55 to 662 through the year ended June 30, 2019, up from 607 for the same period a year earlier.

Some 17% of 5,450 U.K. defined benefit plans used fiduciary managers as of June 30, about 80 more than in 2018, KPMG's latest survey showed. Assets under fiduciary management total £172 billion ($220 billion) now, up from £59 billion five years ago.

But the CMA ruling could see an additional 200 competitive bids between December 2019 and July 2021, Mr. Steyn said.

The rapid increase in new tenders will be a result of plans that already have a fiduciary manager in place having to enter into a bidding process, he added.

If a plan did not use a competitive tendering process to appoint that manager, it will need to retender the mandate within five years of the manager having been appointed, said Ian Cormican, London-based partner at law firm Sackers & Partners LLP.

And if the five years since the initial appointment have already expired, or will expire within two years of June 10, 2019, then the tender has to be run by June 9, 2021, he added.

These new rules are the culmi- nation of the U.K.'s CMA review, which began in 2017, of the investment consultancy and fiduciary management sector.

It was prompted by competition concerns within both the investment consultancy and — to a greater degree — the fiduciary management market, the CMA said. Many appointed fiduciary managers had previously been advisory consultants for the same pension plan.

But only a third of pension plan trustees had asked fiduciary managers to compete for the business through a tender, the CMA said in December 2018.

"This, arguably, gave those firms an unfair advantage in those mandates," Mr. Cormican said.

The CMA also said many trustees did not have sufficient information about fees or the quality of investment consultancy and fiduciary management to be able to judge if they were getting a good deal.

The legally binding CMA order is expected to create challenges for trustees, who will need to invite and use "reasonable endeavors" to obtain written proposals from three independent fiduciary managers.

Steve Balmont, a London-based professional independent pension trustee at independent pension trustee firm BESTrustees Ltd., said: "Carrying out a competitive tender is not cost free."

Expenses will be incurred by the plan, the sponsoring employer, responding fiduciary managers, Mr. Balmont said, and these costs also potentially include advisory charges incurred to help them run the bid.

"The typical scheme using a fiduciary manager only has a couple of hundred million pounds in assets and for smaller pension schemes, the time and costs of retendering could be quite significant," Mr. Balmont said.

It's disappointing the various regulatory bodies have not done a more thorough value-for-money appraisal of how much rebidding might cost all pension plans, especially the small plans, he added.

"Schemes will have to pay upfront for retendering while the payback for schemes complying with this process will come over a number of years," Mr. Balmont said.

While the expected increase in new tenders is an opportunity for fiduciary managers to increase market share, there are no guarantees that participating in a tender will result in a new contract.

"Most of the appointments are quite 'sticky' — it will take a lot to unseat an incumbent," said Vassos Vassou, a London-based professional trustee at independent trustee firm Dalriada Trustees Ltd.

Many fiduciary managers have performed relatively well so most trustees have no obvious reason to change them, he added.

Choosing what tenders to respond to will also be complicated for fiduciary mangers because the market will become much more heterogeneous.

In the past, fiduciary managers had a similar approach for each scheme. "Most offered the same solution — hedge interest risk to a high level and then use the remaining assets to narrow the funding gap through outperformance," Mr. Vassou said.

This approach will no longer work in the same way, for a number of reasons. Over the last decade, a number of large schemes, which have been relatively well hedged, now find themselves in a stronger position.

Nick Lewis, director of investment consulting at advisory firm Redington Ltd., London, said: "These schemes have benefited from the slowdown in longevity improvements, which has ameliorated their funding levels."

These pension plans are now better able to focus on their long-term plans. "Schemes in a strong funding position have a number of different options and trustees tend to have strong opinions about the path which should be taken," Mr. Lewis said.

Fiduciary managers will need to understand the investment beliefs of the trustees before they can make a proposal, which will make it harder to streamline the proposal process, Mr. Lewis added.

A number of regulatory changes are also making it harder for fiduciary managers to offer off-the-shelf solutions.

The Pensions Regulator in its latest annual funding statement said that pension plans should be setting out a clear strategy in their valuations for achieving their long-term goals, such as a buyout or self-sufficiency, where schemes are less reliant on the sponsoring company.

And trustees should acknowledge the balance between investment risk, contributions and the support provided by the company to the pension plan, should vary over time.

Those goals will determine what type of investment strategy plans want to pursue. For example, a plan targeting a buyout is likely to have a lower-risk portfolio because it will be a better match to the type of assets an insurance company will want to acquire.

"A comprehensive approach to integrated risk management should allow schemes to ensure they only take an appropriate level of risk with investments," the regulator also said in its annual statement.

This means schemes with a financially weak sponsor will be expected to shy away from risky assets as there will not be the necessary support if this strategy goes wrong, Mr. Cormican said.

"Fiduciary managers will need a wide array of investment solutions to meet the spectrum of situations to resolve," Willis Towers Watson's Mr. Steyn said.

And these are not the only changes that fiduciary managers, as well as plans, are having to address.

For example, changes to the U.K.'s Occupational Pension Schemes (Investment) regulations, which took effect in October, govern disclosures of financially material environmental, social and governance risks, as well as use of voting and engagement by defined benefit and define contribution plans in their statement of investment principles.

Next year will be the implementation of relevant parts of the European Union's Shareholder Rights Directive II, which will require more detailed disclosures from pensions plans — and asset managers — around shareholder engagement, with the goal of improving corporate governance and discouraging short-termism.

"These new regulations are making it an increasingly complex environment for fiduciary managers," said Caroline Escott, policy lead for investment and stewardship at the Pensions and Lifetime Savings Association, London.

As a result, fiduciary managers will need to know more about each scheme before submitting a proposal.That will be even harder to do when the number of tenders is expected to grow so rapidly.

"Getting enough information is the biggest hurdle," Mr. Steyn said. "It's hard to do without a good conversation with each potential client."

There are, however, potential solutions to this conundrum.

Independent trustees working for multiple schemes using different fiduciary managers could invite those providers to tender for their clients, Mr. Vassou said.

"Effectively an independent trustee could use their broader experience to create a panel of firms to use," he added.

Third-party advisers could also help to bridge the gap.

"Trustees could use one of the consulting firms which do not offer fiduciary management services," Mr. Balmont said.

Those advisers would act as intermediaries, according to Mr. Balmont.

"The adviser will be able to provide the information needed for a manager to tailor their proposal, but it will still require commercial judgment from fiduciary managers whether it will be worth going for it," Mr. Steyn said.

In other words, a review of the services provided to pension schemes by investment consultants and fiduciary managers could result in new business opportunities for investment consultants.

"It is a bit ironic," Mr. Steyn said. "Regulation always provides opportunities for service providers."