My post yesterday pointed to the mixed messages I was picking up from regulators. government and trustees with regards the investment in illiquids.

Today I am a lot less confused thanks to contributions from tPR (David Fairs’ blog can be read from this link), Maria Nazrovia-Doyle

Let me try this Henry: 1) TPR is concerned small schemes invest into unregulated, employer-related investments (this isn’t about “proper” private markets managed assets), 2) AWT is concerned about focus on UK illiquids but is a big supporter of private markets if viewed globally

— Maria Nazarova-Doyle (@Maria_N_Doyle) June 1, 2021

Jo Cumbo, who’s articles I commented on

UK #pension schemes wary of push for ‘illiquid’ investments https://t.co/KBYLPf3tTE via @financialtimes

— Josephine Cumbo (@JosephineCumbo) June 1, 2021

and who followed up the conversation on Linked In (see all the comments)
 

and Andrew Warwick-Thompson, who wrote to me, to clear things up.

I am strongly in favour of the inclusion of high quality investment opportunities in private equity, private debt, sustainable infrastructure, carbon sinks, impact projects etc, i.e., the full range of “illiquids”, in DC schemes.

What I am not in favour of is lobbying by the investment industry to get the charge cap watered down so they can carry on charging egregious fees for illiquids and the government’s mood music about favouring UK centric illiquids investment.

Both Scottish Widows and Cushon will have significant global allocations to illiquids in our defaults and our charges will all be maintained substantially below the cap.

I will be discussing with the DWP later today their plans to facilitate the consolidation of small DC schemes into larger ones. Their premise is that bigger is better in terms of governance and that bigger and better means more allocation to private markets.

Avoiding nasty surprises on liquidation

Maria has taken time out to explain how the issues besetting the valuation of private markets are being address. I had asked about the frequency of valuations as a common feature of investments into private equity is the disappointment investors experience when portfolios that they had supposed valuable proved anything but when it came to finding a buyer for the assets.

This is one that needs to be managed well but it’s inherent in illiquid investments – how often can you get your house fully valued? Probably not every day.

It’s the same with toll roads, hospitals, wind turbines etc.  In between valuations these can be rolled on marking to model basis which is getting more and more sophisticated, with valuations readjusted if needed on the full formal valuation days.

If you have a portfolio of several assets, they will be valued at different points so the more diversified your investment is the more “current” your valuation will be, (as opposed to one asset valued annually, for example).

Cash-flow positive for ever!

I had also asked about the lifespan of a DC investment (technically “the duration”). Maria’s answer is very helpful and can be seen as a marker for how DC investment consultancy is beginning to see DC as CDC.

The reality of DC is that schemes are very unlikely to need to sell these investments as they will remain cashflow positive forever, unless regulations etc change, which won’t happen in a day and therefore can be planned for.

This refreshing optimism is redolent of the confidence that DB schemes used to have when considering their future.

Maria is also on the side of the DWP as seeing  consolidation as a means to mitigate the risks of bulk movements of members as employers choose different workplace pensions over time

In the case of, perhaps, a large employer leaving a master trust, again – these sort of events don’t happen overnight so usually there is a lot of notice. And consolidation will help too – if you’re a master trust with 3 employers that is of a bigger concern than if you are a master trust with 300. So in short, illiquids in DC will work very well once we get to scale, which is happening fast.

Improving value for the saver’s money

I have argued before that for the saver “money” is the money that they put into pensions and not the “money” that the industry extracts to pay themselves. Most people think “net performance” and so long as they understand this to be good, they are happy.

I put to Maria, a point raised by AgeWage co-founder Chris Sier that private equity should not be included in DC as it’s opacity lends itself to rewarding fund managers and fund platforms at the expense of members. Here is Maria’s cute reply.

On your last point, there is no one to please in DC apart from members and perhaps employers by extension.

Ultimately, if DC defaults do not perform well, providers will lose clients. The drive to invest in these assets therefore is both to deliver better outcomes for members, thus doing our job well and having that satisfaction of creating a positive impact on people’s lives, (plus the fact that if you’re a good performing master trust this should also help grow the AUM from new business).

So to me there is full alignment between our interests and our members’ interests. If we do well by them, they will stay and grow their savings with us plus we will attract others

😊 For a provider like us without an asset manager attached, we will not make any more money from including private markets into our default as the fees will go through us to the underlying managers, so we are definitely in this together with our members! We only benefit if we do our job well so that they benefit.

This is the debate that is missing on the changes we are seeing in the workplace pension market.

I cannot think of consolidation, without thinking of collectivization and this conversation with Andrew and Maria convinces me that whether it is doing so consciously or not, the DC strategists are moving toward a position where DC schemes assume the mantle of DB schemes when they were set up in the mid 20th century.

Talk of infinite investment horizons, resilience to major changes in scheme demographics (transfers in and out) and the focus on being judged by member outcomes is of course music to my ears.

I am not so naïve as to think that we are “there yet”, but – to coin a phrase, we are moving along a pensions consumer journey that is in the right direction.

the right path