With less than a year to go until the next general election, politicians from both side of the political spectrum have flagged potential reforms to enhance the cost effectiveness of the Local Government Pension Scheme (LGPS).
Speaking at the Local Government Authority (LGA) conference, local government minister Simon Hoare said that he is giving “serious thoughts to the prudence of retaining 87 LGPS funds” and suggested that the scheme could be more effectively run with fewer funds, as Pensions Age reports.
His comments go beyond proposals made in the latest government consultation on LGPS investments released in November last year. In the consultation, the government suggests that fewer pools with at least £50bn in assets under management could enhance the effectiveness of the LGPS. However, it does not specifically suggest reducing the number of LGPS funds. Initial responses to the consultation reveal that this could potentially become an even thornier issue than reducing the number of pools.
All eyes on Labour
With the Labour party leading in the polls, many LGPS investors are now carefully watching whether it intends to break with the proposals put forward by the LGPS consultation.
Labour’s proposals for “Financing Growth”, released last week by shadow chancellor Rachel Reeves, add little detail. The party reveals that it is also keen to attract more LGPS investment in UK productive assets, though the term productive assets still has to be defined.
Labour does say that it will evaluate different models for pooling “including increasing in-house fund management capacity at the pool level, to deliver better returns for savers and increase investment in productive assets”.
Appetite for autonomy
But such a push for further centralisation of fund management could be challenged from within the LGPS. A survey conducted jointly by Room151 and Schroders among LGPS Pools and administering authorities reveals that 64% of survey respondents believe asset allocation decisions should be left in the hands of administering authorities.
It is of course possible for pools to manage assets in house and leave the asset allocation decisions to the authorities, as practiced by several pools. But there still appears to be significant appetite among administering authorities to invest with third party asset managers outside of the pooling structure.
Indeed, many of the recent place-based impact investments took place outside of the pools. For example, Avon Pension Fund recently invested £160m in renewable infrastructure and housing and Greater Gwent announced a similar place-based impact investment which accounts for 6% of its portfolio.
The Schroders/Room151 investment survey also shows that there is little appetite for further consolidation; some 48% of survey respondents argue that the current regional structure of pools is best, and 20% of respondents say pools should have more than £50bn in assets. However, 16% of LGPS investors surveyed believe 2-4 pools with more than £100bn in assets would be ideal.
Bigger is not always better
There is also a case to be made that consolidation does not always lead to greater cost effectiveness. The latest data on LGPS Costs released by the LGPS Board reveal that investment management costs have risen by more than 20% year on year, in part because schemes are allocating more towards private markets.
While most LGPS Pools have reported cost savings, the figures varied widely and pools with greater in-house capacity have not always reported the biggest cost savings. Greater allocations to private markets could be a factor driving down cost savings, with performance fees accounting for a growing share of LGPS investment management spend.
Overall, pooling appears to have enhanced cost effectiveness for both internally managed and externally managed funds. ACCESS reported cost savings of around £98m since inception while Border to Coast reported £75m in savings last year and expects total savings since inception to increase to £367m by 2030.
These figures do not factor in potentially higher returns in private market portfolios.
Flexibility needed
Another argument against greater in-house investment capacity is the changing asset allocation for many LGPS Pools, argues Steve Simkins, public services leader at ISIO.
“The desire to build large in-house investment teams suggests that the LGPS is expected to continue to invest in equities. However, the current very high funding level of the LGPS suggests that equity returns are no longer needed. This highlights the risk that as the pools build large workforces to support a single collective client, the LGPS becomes less adaptable to future market conditions. This comes with long term implications for employers and might signal a move towards the LGPS being treated more like a sovereign wealth fund,” he warns.
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