Collaboration: Come Together or Go It Alone?

Collaboration is the buzzword of the UK defined benefit (DB) sector in 2015.

The government’s plans to force public pensions to pool investments—and, ultimately, to fund the country’s infrastructure—have sparked some of the most ambitious collaborative projects the UK has seen.

“I don’t see any disadvantage in sharing ideas with the right people. There are benefits to be had from meeting and getting the right people together.”While investment teams within the Local Government Pension Schemes (LGPS) are investigating new ways in which to put their estimated £222 billion ($339 billion) of total assets to work more efficiently, what of the £1.2 trillion invested in private sector DB funds? Can they save money in a similar way?

In front of trustees and investors at the Pensions and Lifetime Savings Association’s (formerly the National Association of Pension Funds) annual conference in Manchester, Chris Hogg, CEO of the Royal Mail Pension Plan (RMPP) posited that large corporate pensions should consider more collaborative work.

“I don’t see any disadvantage in sharing ideas with the right people,” he said. “There are benefits to be had from meeting and getting the right people together.”

While such idea-sharing doesn’t necessarily mean a formal investment project will follow, Hogg’s remarks effectively threw open the door at RMPP. CIO understands a number of pension professionals have already struck up conversations with the fund, although Hogg and his team have yet to comment further on their plans.

But how far would a corporate sector pension go down the collaboration route? Asset owners are no strangers to meeting at forums and conferences—and if you are, CIO’s forums are the best place to start. Formal arrangements, however, are far less common.

The reason, at the outset, is simple: “I don’t know how teaming up with other pensions would benefit me,” explains one cynical CIO of a closed UK DB plan, preferring to remain anonymous.

Perhaps, however, this view is about to be challenged.

According to Aon Hewitt’s John Belgrove, there has been a “huge amount of change in the past 10 years,” not least due to private DB plans entering what he calls “the decommissioning phase.” Funds closing and starting to focus on an endgame will give rise to new ideas, he adds, and a degree of experimentation.

Where to Start?

“I could put three or four CIOs in a room and the chances are there will be some fundamentally different issues between them.”As Stamford Associates CIO Nathan Gelber says, the first question for those considering engaging with RMPP and others should be: “What are they interested in pooling?” It could be purchasing power, the advantage cited by many local government investors, or other operational elements such as shared administration. It could also be less formal: “Brain power”, as Gelber puts it.

However, obtaining a consensus between even a small group of asset owners is a difficult task, Belgrove says—whatever the objective.

“CIOs should be fit for purpose for their funds, and so to get several to work together you’d need them to be like-minded,” he says. “I could put three or four CIOs in a room and the chances are there will be some fundamentally different issues between them, for example their views on governance, hedging, or active management.”

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Recent successful collaborative projects on the continent show the importance of a shared objective—in Sweden, for example, it’s to generate income to fund the country’s state pension. In August, Sweden’s AP1 and AP2 teamed up with fund manager TIAA-CREF to form a €2.2 billion ($2.3 billion) property investment joint venture, while AP1 and AP3 were involved in a consortium finalized in March to purchase electricity distributor Fortum.

Gelber agrees that getting investors on the same page is difficult, but argues that it is not impossible. Stamford’s clients have co-invested in projects in the past, but have been “very project-specific.”

“If large funds were to disintermediate and remove consultants, they would be more likely to drive down fees.”“In special niches where you can benefit from being a lead investor and inviting others to join you, you can negotiate a good fee and a good contract,” Gelber says. “But it is heavily opportunistic. They only really do it when it is a screaming opportunity.”

A hypothetical example: “If you see junk bonds yielding 22% because everyone thinks the world is going to end,” Gelber says, “we might be able to get three or four people together to buy at that level.”

Even after this agreement there are hurdles. As Gelber points out, trustees or sponsors may still object to the proposals, even if CIOs are on board. “If people want to take advantage of pooling, there need to be preconditions,” he says. Investors need to be able to deploy cash quickly.

But… Why?

As well as ‘how’, you need to know ‘why’ when considering working with other funds.

For the LGPS, the reasons given are scalability and efficiency. With more than half of local authority pensions under £2 billion each, bigger pools of capital will (it is hoped) be better suited to buying real assets directly and negotiate lower fees from providers of mandates shared between multiple funds.

Control over assets may even trump any potential cost savings, the pension CIO argues. Compromise between asset owners with different objectives would be difficult, to say the least.

While some asset owners may not take collaboration further than the ‘pooling of ideas’, Aon Hewitt’s Belgrove believes there is a lot more traction in pension funds working more closely together. In the broader business landscape, collaborative efforts are becoming more commonplace, he adds, particularly through joint ventures.

“The whole landscape has changed,” Belgrove explains. “Sponsors are sick and tired of putting money into their funds and not seeing the deficit fall. Pensions are having to sell capital assets to meet their cash needs. In a decommissioning market we are discussing different models that are encouraging. Those that have upped their game, are accessing the best ideas, and are acting more nimbly, stand a better chance of succeeding.”

When it comes to the cost argument alone, however, our anonymous pension CIO is unlikely to budge.

“You can deal with [costs] in a number of ways,” the CIO continues. “Consultants don’t always bring down fees as much as they could.”

So, rather than spending months hunting for a like-minded investment partner or two, perhaps asset owners could take a simpler route to reducing those bills. As our asset owner states: “If large funds were to disintermediate and remove consultants, they would be more likely to drive down fees.”