Attendees to Quattro Pensions’ seminar were treated to a tour of investment options available to pension scheme trustees, focusing on those which are newly accessible to smaller schemes.
The way forward
Quattro’s Mark Frost set the background, noting the times are changing for trustees, consultants and regulators. Closer monitoring is the watchword for 2020. Many schemes are seeking to use fiduciary management to help improve governance. This can be a reasonable approach as long as clear mandates are set for each party.
Mark also outlined what Quattro expect to see in the forthcoming Code of Practice from the Pensions Regulator. It will be down to each trustee board to justify departure, if they wish, from TPR’s “fast-track” approach. This is likely to be a gilts-based discount rate, plus 0.25% or 0.5%, reflecting reduced dependency on the sponsoring employer. Trustees will also need to demonstrate how they are assessing and mitigating investment risk.
On the road
Cutting through the noise, Piya Sachdeva, Economist at Schroders discussed the factors that will be driving investment in the next few years. She highlighted declining labour force growth, wage inequality, and the ageing population as key challenges for developed markets, which were likely to result in muted economic growth over the next ten years and lower expected returns on equities. She suggested that interest rates and inflation were likely to remain lower for longer, resulting in a hard environment for pension schemes.
Piya noted that in continental Europe, surveys suggest that people rank climate change as more important to them than employment and the economy, though the picture may be different within the UK. Schroders’ forecasts indicate that the world is a long way away from meeting the objectives required to limit climate change to a manageable extent. The rise of the robots is another potentially disruptive factor, and not even economists are safe from automation!
Are gilts running away with your funding?
Stuart Grant, Senior Investment Consultant at Stamford Associates, sought to answer a common question from finance directors: how is it that the pension deficit has increased, given the stronger-than-expected investment returns that have been achieved and the higher contributions paid? He noted that gilts-based discount rates have been a moving target, and suggested that a focus on the absolute return required might be more appropriate where pension schemes can afford to think longer term.
Stuart explained how cashflow mapping can help to avoid crystallising losses in a mature, cash flow negative scheme, and can be used to help a scheme along a de-risking journey.
Getting over potholes
Do you think derivatives are high risk? Mark Davies, Head of Derivatives at River and Mercantile, explained how structured equity can be used to help reduce the risks associated with investing in equities. Structured equity offers a way to tailor protection from falling markets to schemes’ particular needs, and Mark explained how this could be made cost-effective by capping returns or the protection required.
Structured equity can be made up of a gilts portfolio and equity options. Mark noted that while the gilts portfolio provides collateral for the options, it also helps to hedge interest rate and inflation risks within the scheme. Structured equity could therefore sit as part of a cashflow-driven investment strategy.
Nikesh Patel, Head of Investment Strategy at Kempen, noted that increasing numbers of medium-sized schemes were choosing to use fiduciary managers. Environmental, social and governance (ESG) factors were a common reason for doing so. Further, fiduciary management gives smaller schemes access to more sophisticated strategies than they might be able to achieve alone. Nikesh reiterated that trustees retain control over the mandate they give their fiduciary manager.
Nikesh suggested that a fiduciary manager should help guide trustees through their journey planning to their end game. He highlighted factors trustees might look for in seeking to appoint a fiduciary manager, such as expertise, integrity and communication. Since the CMA review of fiduciary management, Nikesh noted that it is becoming easier to compare fiduciary managers “like for like”, although many trustees employ a search consultant to help them navigate the market.