Date: May 27th 2014
UNISON Regional and Branch Briefing (Northern Ireland and Scotland for information)
Government consultation: Local Government Pension Scheme (England/Wales):
Opportunities for collaboration, cost savings and efficiencies in the LGPS funds.
Introduction
The Department for Communities and Local Government (DCLG) has launched a
consultation on proposed structural reforms to the Local Government Pension Scheme
(LGPS), which closes on July 11th 2014. This paper highlights some of the key issues in the
consultation and sets out UNISON’s outline response.
Action
The union will be submitting a response to this consultation from the centre. Therefore
regions and branches are asked to respond to this briefing by sending their comments to
Colin Meech, National Officer, c.meech@unison.co.uk by not later than July 1st.
All consultation papers are available on the UNISON web site – the consultation ends
on July 11th.
Summary issues
 The government commissioned Hymans Robertson, a LGPS actuary and investment
advisor, to review the costs of investing in the LGPS funds.
 The report was based on an analysis of 18 funds, again this we believe undervalues
the research due to the lack of data for all of the 89 funds
 Total asset management costs across the LGPS in 2012 were estimated at £790m of
which £745m was investment management costs and £45m oversight costs – this did
not include other investment costs such as research, commissions and stamp duty
 This means that there are more costs to fund investing that have not been identified
– the report therefore underestimates the potential improvements to the fund’s
economic performance
 However, the government have accepted in principle that there are, as we have
stated in the past, considerable economic benefits to be gained from scale
 The report suggests that ‘savings’ or better investment performance could deliver an
additional £660m to the funds
 Moving to passive management of listed assets, would save £420 million (this is
comprised of a reduction in investment fees of £230 million and a reduction in
transaction costs of £190 million)
 Passive management is a style of investing that does not require the constant buying
and selling of assets in expectation that this will deliver more returns. For example,
buying into a fund that tracks the membership of the FTSE100 or FTSE300
 The government has ruled out formal fund mergers at this stage and prefers the
option of super pools of assets or “collective investment vehicles” CIV’s for short. To
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ensure the levels of predicted ‘savings’ LGPS funds would have to be compelled by
legislation to invest in them.
The governance of these super pools is not discussed. This is a serious oversight as
scheme members will have no say in the running of the CIV’s.
The results of the research paper commissioned by the government are in effect a
recognition of a significant governance failure within the LGPS in England and Wales
Background
In 2010 the Independent Public Pension Commission asked for evidence to support the
possibility of reform to the structure of LGPS funds. It also recommended that the LGPS
funds should collaborate more on administration and investment.
UNISON submitted evidence to the commission, based upon an independent analysis by
APG the fund managers for the equivalent scheme in the Netherlands. This reported on the
potential to increase income to the LGPS by some £1bn a year through fund mergers.
In 2012 the government launched a call for evidence on structural change. UNISON’s
submission again called for the merger of LGPS funds and for asset management to be
bought in-house, to eliminate fees and create public sector jobs. The LGPS Shadow
Scheme Advisory Board (on which UNISON is represented) analysed the results of the call
for evidence and made recommendations to the DCLG.
At the end of 2013 the Cabinet Office and DCLG set up a further review. Hymans Robertson
who are actuaries and investment advisors to a significant number of LGPS funds, looked at
the costs of asset ownership in 18 funds. Their review has found that as much as £660m a
year could be saved through better use of common investment vehicles.
The results of this review have now been published and the DCLG has set up a consultation:
Local Government Pension Scheme: Opportunities for collaboration, cost savings and
efficiencies.
UNISON will need to respond to this consultation and also feed into the LGPS ‘Shadow
Scheme Advisory Board’ (SSAB) response.
Consultation details
Having considered the responses to the call for evidence, the SSAB’s recommendations and
the Hymans Robertson report, the Government is proposing:
 Establishing common investment vehicles to provide funds with a mechanism to
access economies of scale, helping them to invest more efficiently in listed and
alternative assets and to reduce investment costs.
 Significantly reducing investment fees and other costs of investment by using passive
management for listed assets, since the aggregate fund performance has been
shown to replicate the market.
 Keeping asset allocation with the local fund authorities, and making available more
transparent and comparable data to help identify the true cost of investment and
drive further efficiencies in the Scheme.
 Hymans Robertson’s analysis suggests that savings of £660m pa could be achieved
by the LGPS if all of the funds adopt the following proposals in full.
 Moving to passive management of listed assets, which would save £420 million (
this is comprised of a reduction in investment fees of £230 million and a reduction in
transaction costs of £190 million)
 Ending the use of ‘fund of fund arrangements in favour of a common investment
vehicle for alternative assets, which would save £240 million.
The consultation document states that ‘The Government is interested in exploring these
proposals further with a view to maximising value for money for “taxpayers, Scheme
employers and fund authorities’. It is interesting to note that there is no mention of scheme
members in this.
The LGPS members and employers currently pay for 869 fund management contracts with
assets under management of £159bn. Since 2010 UNISON has expressed its concerns that
the LGPS funds are not sufficiently scaled or effectively governed in the scheme members
interests. It appears from the report and other independent research that the fund managers
have gained highly significant income for ineffective performance.
Consultation questions
The consultation proposes four questions:
Q1. Do you agree that common investment vehicles would allow funds to achieve
economies of scale and deliver savings for listed and alternative investments? Please
explain and evidence your view.
Q2. Do you agree with the proposal to keep decisions about asset allocation with the local
fund authorities?
Q3. How many common investment vehicles should be established and which asset classes
do you think should be separately represented in each of the listed asset and alternative
asset common investment vehicles?
Q4. What type of common investment vehicle do you believe would offer the most beneficial
structure? What governance arrangements should be established?
Q5. In light of the evidence on the relative costs and benefits of active and passive
management, including Hymans Robertson’s evidence on aggregate performance, which of
the options set out above offers best value for taxpayers, scheme members and employers?
UNISON Commentary
The Government has (either unknowingly or willingly) been diverted by vested interests. It
has missed the opportunity to create one or a small number of nationally important funds,
which could be centres of excellence for infrastructure and socially responsible investing.
Merging funds would create economies of scale that would over time reduce the deficits for
LGPS contributing employers and reduce contributions, allowing them to create jobs and
allow for wage increases.
The evidence provided in the Hymans Robertson report is based upon a small sample of the
LGPS funds: only 18 in total. While it is useful in establishing that scale is important for
investment and notes that the ‘active’ fund management returns do not justify the high cost
of transactions, i.e. the constant buying and selling of shares and bonds, it does not delve far
enough into the hidden transaction costs that funds are paying.
The Hymans report highlights the very high costs involved with alternative assets classes
such as Hedge funds, Private Equity, infrastructure and property, although it does not want
to address these costs immediately. These arise due to the small scale of the LGPS funds,
which results in the investing in “fund of funds” structures.
The proposals fall far short on governance of the pooled assets and in particular on the
stewardship issues, the voting of shares and engagement with companies.
Unlike previous consultations which had suggested more in-house fund managers, (there
are currently only five funds with extensive in-house management), unfortunately this
consultation does not.
Of concern and with potential to delay the process, the proposals for the pooling of assets
will require legislative change to compel the funds to invest in them. This contrasts with fund
merger, which could be introduced more quickly as the DCLG Secretary of State already has
the power to enforce it.
Asset pooling will also leave funds in place and so reduce the impact of economies of scale.
Scaled funds, say 4 of £40bn each, would have the potential to eliminate the hidden
transaction costs that plague our pension funds by taking all of the asset management inhouse.
Outline UNISON response
We will highlight the weaknesses in the report set out above. We have also commissioned
an investment industry expert to review the Hyman Robertson report in detail.
In our last submission to the DCLG’s ‘call for evidence on structural change’ we stated:
“Academic evidence supports the creation of large, fiduciary based funds. Generally they
have lower administration and fund management charges by employing internal fund
management staff committed to the broad economic and social ambitions of the fund
members’.
However, scale and size of pension funds are but one element in a strategy to improve
performance. One of the world’s leading experts on governance and pension fund
performance, Keith Ambachtsheer, Director, Rotman International Centre for Pension
Management, states that funds can improve performance if they meet the following criteria:
1. They align interests with scheme members
2. They have strong governance
3. Sensible investment beliefs – long term patient capital
4. Right-scaled, from $30bn+ of assets under management
5. Competitive compensation for fund staff
In our view the most effective model for pension fund performance is the Canadian public
pension fund system. Their well-developed governance structure is one of the main reasons
the funds are emulated by their peers internationally.
Given the size, reach and influence of the top ten, their governance model also encourages
good corporate governance practices in Canada’s capital markets. They also have sufficient
scale on account of their large member base and the fact that members, once enrolled,
make regular and automatic contributions to the plan.
This scale allows them to participate in alternative asset classes, including capital intensive
assets such as infrastructure. It also allows them to manage their investments internally,
thereby lowering their cost structure significantly, and putting them in a stronger negotiating
position when setting external investment management fees.
Key points:
 The proposals do not go far enough: merged funds would provide for greater
savings, more effective accountability and transparency.
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UNISON has a counsel opinion says that the governance structure of the current
funds is unlawful, as they do not comply with EU legislation. The governance
structure of pooled funds would add another layer of complexity and opaqueness.
The proposals require scale, compulsion and legislative change. This approach
introduces additional risks.
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Total passive management of funds could make them inflexible. Active management
carried out in-house would not carry the high costs charged by profit making external
managers.
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Stewardship of the assets, voting and engagement would be more complex and
costly.
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Governance of any pooled arrangement must have equal numbers of employee and
employer representatives.
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Pooled vehicles should be run by in-house investment teams so avoiding hidden
transaction costs.
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Any cost reductions should be shared by both employers and scheme members. The
Treasury should not be allowed to siphon more money away from the LGPS.
Reply to: Colin Meech, National Officer c.meech@unison.co.uk