C-M-A Over, now Over-SEE-EM-PLAY
My career in headline writing is officially over before it even started, but highly questionable wordplay is frankly inevitable if you are going to give me the freedom of writing a blog!
Freedom is something which has been at the forefront of all of our minds during the last 16 months of lockdown. 10 June marked the first deadline for many defined benefit (DB) pension schemes to retender their fiduciary management arrangements. We estimate that around 200 trustee boards have had to decide which organisations to give the relative freedom of managing tens of billions of pounds of their pension funds’ assets.
This work involved a number of hugely financially significant decisions and a significant amount of time and resource.
Was all the hard work worth it?
Yes, I believe it was. Ultimately the Competition and Markets Authority (CMA) set out to fix competition issues in the industry, with the belief that pension funds were losing out because of many mandates being set up in an uncompetitive environment. The CMA thought pension funds were paying too much for fiduciary management. And they were right.
"Our experience is that re-tendering has led to a wide-scale reduction in fees paid by pension funds. Depending on the size of the fund, our clients will save tens or hundreds of thousands of pounds annually as a result."
Does this leave a bitter taste? No, I don’t think so. The early adopters of fiduciary management have footed the bill for the industry to establish itself in the UK, but at the same time most of these funds are likely to have moved to a more sophisticated investment strategy as a result, ultimately leaving them better off today. “Quid pro quo” as they say.
Increased competition has also encouraged faster service enhancement than might have otherwise been the case. Developments in ESG integration, investment approaches for mature pension funds and investment reporting are common areas where our clients have ended their re-tender exercise in a better position than where they started.
In most cases this evolution has been with their existing manager, but not always. Around one in four pension funds we worked with on re-tendering over the last twelve month changed their manager.
What else did we find?
In no particular order, below are some musings from around our team of specialist fiduciary manager (FM) advisers.
- Trustee and sponsor engagement was high. In some cases engagement was higher than our clients themselves may have at first envisaged. This was the first time that many pension funds had explored the market.
- Delivering against investment objectives the main focus. Selecting a fiduciary manager is an investment decision with material financial consequences. All of the exercises we were involved with were geared around increasing the chances of achieving our clients’ individual investment objectives. In many cases, the exercise helped accelerate and/or focus strategic discussions.
- Listening beats talking. A common theme for the successful managers was the investment of time into listening to what trustees and sponsors had to say and reflecting this within their proposals in a meaningful way. Exercises where trustees met managers at an early stage tended to lead to stronger proposals.
- Transaction costs were generally not a barrier to changing. Greater confidence in the new manager delivering against objectives tended to outweigh the explicit costs of moving. We also saw mitigation of costs by retention of some existing assets by the new manager; e.g. Liability Driven Investment (LDI) portfolios and, in some cases, the new manager funding some of the costs themselves.
- Investment market volatility provided a helpful backdrop. While we always caution against past performance being guaranteed in the future, market volatility provided an opportunity for managers to ‘walk the talk’. The dispersion in returns over 2020 showed some managers striding better than others. See our 2020 FM Investment Performance Study for more details.
- Virtual manager site visits worked well. It has staggered me how well the industry has reacted to remote working — not just through the use of technology, but also through the ability to build the trusted relationships needed to look after a pension fund’s entire assets. There is something about being able to see people in their homes that is just as important on a human level as being able to interact with them face-to-face.
- Market capacity and resourcing held up better than expected. Notwithstanding our best efforts to encourage the CMA to push back the 10 June deadline, we felt changing priorities during the pandemic justified this; the capacity crunch we feared didn’t materialise in a significant way. The vast majority of our clients received high quality proposals from their agreed shortlist of candidates. I salute anyone who has worked in a fiduciary management bid writing team over the last three months!
What happens next?
Back to my questionable blog title. CMA re-tendering isn’t really over just yet. We expect there will be a large number of pension funds who appointed their manager in the last five years who still need to undertake an exercise. There will no doubt also be more schemes moving into FM for the first time over the years ahead, or testing the market again as circumstances evolve. These pension funds will be in a strong position to benefit from the experiences of others.
But where re-tender exercises have been completed, we strongly encourage pension funds to put in place a framework to oversee the manager’s performance and activity, or their ‘play’…
A joke is not a joke if you have to explain it, I know, but the playground analogy can be extended at least.
"You would not let a child mark their own homework, let alone set their own pass mark. Nor would you give them the freedom to do what they like at school and check in seven years later to see if everything has gone as you’d hoped."
Improved FM oversight
The same can be said for overseeing a fiduciary manager. The freedom which comes with implementing a highly discretionary investment mandate covering all of a pension fund’s assets is a huge responsibility to bestow upon a third party. In my view the greater the responsibility a manager takes for implementation, the greater the responsibility a trustee board must take for ensuring that the manager is performing well and that the mandate is fit for purpose. How is this done?
- Regularly scrutinising the investment and risk management decisions taken by a manager and evaluating whether they are consistently adding value.
- Routinely considering the broader market and manager context and evaluating performance on a comparative basis.
- Identifying possible early warning signals for things going wrong.
- Periodically taking a step back to see if your pension fund’s circumstances remain aligned with your manager’s capabilities.
As we move toward a world of increased freedoms – at work and in play – I am hopeful that in the world of fiduciary management at least, this will bring about a revolution in quality, independent oversight.
If you would like to talk about this topic, please get in touch with your usual Barnett Waddingham contact to find out how we can support you. Alternatively, please contact me below.
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