Local Government Minister Brandon Lewis today (1 May 2014) published proposals for better pension management that could deliver substantial annual savings for taxpayers that will build to £660 million a year over 10 years.
The proposals draw on a public call for evidence and a report from city pensions experts, Hymans Robertson, who reported that the cost of investment in England and Wales was £790 million, much higher than previously thought.
The government’s proposals aim to reduce investment management overheads and achieve a higher level of accountability to local taxpayers including through an improvement in the availability of transparent and comparable data.
The savings outlined in the consultation published today are comprised of 2 main elements:
- moving to passive management of listed assets like bonds and shares, accessed through a common investment vehicle; this could save £230 million annually by cutting investment fees and a further £190 million by reducing transaction costs
- using a common investment vehicle to invest in alternative assets, ending the use of high cost ‘fund of funds’ to save £240 million a year
Common investment vehicles will allow authorities to bring together their investments, helping them to take advantage of their combined buying power and to invest more efficiently to deliver savings. In addition, passive management of listed assets will significantly reduce investment fees and transaction costs, without affecting the overall investment returns of the Local Government Pension Scheme.
Brandon Lewis said:
Under the last administration, the cost of town hall pensions almost quadrupled to nearly £6 billion, diverting taxpayers’ money from emptying bins, cleaning the streets and keeping Council Tax down.
This government is taking action to reduce the massive and unsustainable cost of state sector pensions. The proposals I am setting out today will help reduce investment costs by £660 million a year. For the first year in recent memory, the cost of town hall pensions to taxpayers is now falling.
The government is keen to hear from those with an interest in the Local Government Pension Scheme including fund authorities, members, employers, suppliers and taxpayers. The consultation will remain open for 10 weeks, giving anyone with an interest in the proposals a chance to review the evidence and submit their views. Following the consultation, the government will consider the responses as it firms up its proposals for reform. Other key elements of the consultation proposals on the Local Government Pension Fund include:
- Asset allocation will remain with the local fund authorities.
- The government does not intend to pursue fund mergers at this time.
- The consultation seeks views on how these reforms, if adopted, might be implemented most effectively.
- Hymans Robertson examined aggregate fund performance for listed assets over the 10 years to March 2013. They compared fund performance gross of fees in each asset class against the market performance for that class. They found that there was no clear evidence that the scheme as a whole had outperformed the market in the long term. They concluded that listed assets such as bonds and equities could have been managed passively without affecting the scheme’s overall performance.
- The consultation acknowledges the work the Shadow Board has done to date to improve data transparency, such as bringing together the 89 individual fund reports. The government is keen to support the Shadow Board in its work to establish a comparable baseline of data, and looks forward to working with it to further improve fund transparency.
- The consultation welcomes the Shadow Board’s recommendation to develop a short-list of mechanisms for managing fund deficits and to evaluate the costs and benefits of these proposals. It asks the Shadow Board to continue its work in this area and invites respondents to submit any feasible proposals for the reduction of deficits.
Passive management typically invests assets to mirror a market in order to deliver a return comparable with the overall performance of the market being tracked. Passive is much cheaper than active management, but if the right investments are chosen, active management can allow investors to achieve higher returns. However, active management can also expose investors to the risk of under performance.
Alternative assets are non listed investments such as infrastructure, private equity, property and hedge funds. Listed assets are essentially equities (shares) and bonds.
Many authorities currently use ‘fund of funds’ to achieve the scale needed to invest in alternative assets. These often include several layers of fees, making them an expensive way to invest.
Following an open tender process, Hymans Robertson was appointed to provide a cost benefits analysis of 3 potential options for reform and to set out the barriers to implementation and how they might be overcome. These options were 5-10 merged funds; 5-10 common investment vehicles; and 2 common investment vehicles (1 for listed assets and 1 for alternatives). See the Hymans Robertson report.
The cost of the scheme in England, which falls mostly to taxpayers, has almost quadrupled from £1.5 billion in 1997 to 1998 to £5.7 billion in 2012 to 2013.
The market value of the funds at end of March 2013 was £178 billion; this represents an increase of 13% on March 2012 and 27% on March 2010.
There were 4.68 million members of the Local Government Pension Scheme at the end of March 2013.
Call for evidence
The consultation has been developed in response to the call for evidence into the future structure of the Local Government Pension Scheme.
Contestable policy fund
As part of this government’s drive for more open policy making and following a competitive tender process, ministers appointed pension expert firm Hymans Robertson to bring forward an assessment of savings opportunities through increased pension fund collaboration.
The Contestable Policy Fund was announced in the Civil Service Reform Plan. The Cabinet Office will act as a secretariat to the process and support departments to evaluate the effectiveness of the approach and its value for money. The fund will be overseen by ministers and the process will be underpinned by clear contracts - setting out criteria to ensure that the policy being developed is done so in the best public interest and that it does not favour any bias of the provider.
See more information on civil service reform.