LGPS reform proposals push passive investing, not mergers

In its proposals for reforming the Local Government Pension Scheme (LGPS), the government has proposed that investment in listed bonds and equities is made passively, through a common investment vehicle (CIV), which would give an estimated annual saving of £420 million.

In addition, it is suggested that a CIV for alternative assets could produce annual savings of another £240 million, giving a total annual saving of £660 million. The proposal is based on analysis carried out for the Department for Communities and Local Government (DCLG) by actuaries and consultants Hymans Robertson. Consultation on the proposals is open until July 11th.

Hymans Robertson was asked to give a cost-benefit analysis for three options:

• Establishing a CIV for all LGPS funds.
• Creating five to ten CIVs for fund assets.
• Merging the existing structure into five or ten funds.

However, the DCLG said it has decided not to consult on fund mergers at this stage. The Hymans’ report stated that the first option had the highest net present value of benefits over ten years, £2.8 billion, compared to £2.6 billion for the second option, and £1.9 billion for merging the existing 89 LGPS funds into five to ten “super funds”. The latter option also raised legal, administration and implementation issues, Hymans said.

The case for all LGPS funds moving to passive investing of equities and bonds rests on the fact that, in aggregate, actively-managed LGPS funds do not beat the index. Hymans said this was consistent with international wider evidence and added: “Greater use of passive investment for listed equities and bonds could save £230 million (13bps) per year without damaging the investment performance in aggregate across the LGPS.”

An LGPS veteran, who did not want to be named, commented: “Merging funds could create winners and losers and would be difficult and costly. It is also important that local authorities still have local accountability, particularly in relation to historical deficits.” The DCLG proposals suggest existing LGPS funds will make asset allocation decisions and then use the CIVs as part of their investment approach.

London Pension Fund Authority (LPFA) chief executive, Susan Martin, said the LPFA was very disappointed that the proposals do not include fund mergers, while LPFA chairman, Edmund Truell, went further, when quoted in the Financial Times, saying: “The government has allowed itself to be driven into a blind alley by vested interests and the forces of conservatism, rather than seizing the opportunity to create nationally important funds.”