His Majesty’s Treasury
HMT has one explicit pensions policy mentioned in the mini-budget. The government is proposing that “well designed” performance fees, typically levied by private equity and venture capital managers, should be excluded from the 0.75% charge cap on DC workplace pension fees.
This may allow for the inclusion of certain highly priced assets to be included in workplace pension defaults , but it does not give any encouragement to the commercial master trusts to buy them. Let me explain.
The large workplace pensions, master trusts and to some extent group personal pensions are measured by those who analyse them , primarily on the price of their default funds. This was brought to the attention of a meeting in this year’s PLSA conference by PLSA chair Emma Douglas, then at L&G, now at Aviva. Emma knows a thing or two about workplace pensions as both these insurers are major players.
What Emma said was simple (I paraphrase) – that there is no reason for those operating workplace pensions to pay any more for assets and asset management than can be justified to win new business. Trustees may push for greater diversification and access to the seemingly less volatile valuations of private markets, they may even demand that their member’s money is made to matter in terms of improved ecological sustainability, biodiversity and positive social impact. But ultimately, so long as a master trust is being judged on the price of its default fund, then there is no commercial imperative to improve the value that the default brings.
And there is absolutely no reason for a commercial pension provider to help out a Government deliver its growth agenda by funding projects that would otherwise be funded from the public purse.
Emma did not explicitly spell this out, but it was clear from the vehemence of her interventions (from the audience) that there needed to be a reality check before the session ended.
There have been investments into private markets by (among others) Nest, Cushon and Smart. They have been very public investments aimed at making members aware that the trustees are going the extra mile. Whether any of these investments are likely to in themselves cost the master trusts more than 0.75% (the cap on fees), is unlikely. One recent attempt by a boutique to sell asset management and assets at an explicit price higher than 0.5% was rebuffed and Nest have publicly stated that they will not invest where hidden fees would mean the total cost of owning assets was uncapped. Asset managers are being forced to sell private market investments at a price which is commercially sensible to the master trust.
Everyone agrees that price should not be confused with value, but until providers are selected by employers and ceding trustees on more than price, value is a poor relation.
The problem is alluded to here
Even if Callum, the trustees and the commercial provider all agree that an asset or fund can “deliver good financial returns long term”, it needs to justify its existence not just to the trustees and members, but to the shareholders of the provider.
Time for a rethink
If the aim for Government, trustees , providers and sponsors of DC schemes is to get best value for money, then it must be value for money and not price which must be the measure of an investment strategy. If a default fund is found to be pricey but good value, it should be included, if cheap but delivering poor value, it should be barred. But this is not happening at present.
So the Treasury should be working with the DWP and their regulators to improve competition based on value and not just on money. I have and will argue that the only true test of value is in the member outcome. While sometimes an asset cannot be measured on historical returns, (where for instance it is under construction) then comparables can be used. Where there is a historic price track, it should be tested against member data to ensure that had the asset been used, it would have delivered. The testing of performance is too vulnerable to marketing spin to be trusted to providers, it should be conducted by consultants using experienced internal rates of return of those taking the risks (the members).
It is only when we get a consistent means of testing value for money , that we can properly measure price. The FCA found a consistent way to measure “money” which resulted in the CTI tables, but no-one has taken on the asset managers on performance (as yet).
What the Treasury’s big idea should be
We are as one , members should not pay over the top unless it can be shown they they are paying for enhanced value.
Value must be evidenced empirically (e.g. not through marketing hype but through data).
Admitting assets into DC defaults which risk breaching the price cap can only be permitted where there is clear evidence cost will be rewarded. Otherwise we risk using the savings of ordinary people as a supplement to the Private Finance Initiative.
Well, having removed the cap on bankers’ bonuses they do need to ensure that their ‘friends in the City’ (though almost no private equity groups are within the square mile) have lots of our money to distribute among themselves.
Iain Clacher and I wrote a number of blogs here outlining our objections to performance fees – perhaps Henry can provide some links. We will add one further point – much of the ‘profitability’ of private equity was derived from falling interest rates – which are now long over. A place to start reading on that is Victoria Ivashina’s paper
“When the Tailwind Stops: The Private Equity Industry in the New Interest Rate Environment”
If you really ‘must’ but private equity – do it in listed form.
Here’s a link to my response to the consultation on performance fees last year
https://henrytapper.com/2021/04/18/con-keating-on-illiquids-and-performance-fees/
Here’s a quote from Ivashina’s paper
“The consistent growth of long-term alternative asset managers in the past four decades coincided with the secular decline in interest rates. This has been an important tailwind for the industry’s development as debt markets became increasingly cheaper and, at the same time, institutional investors were searching for ways to offset the shrinking yields on their fixed income portfolios. These forces have been essential to understanding the industry’s growth despite the rise in competition, valuations and, relatedly, the private equity industry’s shrinking returns. The past decade, however, has marked the new monetary policy regime: short-term rates (the traditional monetary policy tool) have been trapped at zero. While the rates might start to rise again, what is clear is that the favourable dynamic of declining rates that for decades drove capital into the alternative space will no longer be there. This development is likely to redefine the role and economic significance of the private equity industry in the decades to come.”
This was written before the rise in rates.