Global infrastructure investment for smaller pension funds

Given the central role of this infrastructure in the UK economy – both contributing to and benefiting from financial prosperity – it is troubling that, time and again, national investors are overlooked for such projects while foreign institutions are courted.

While in late 2014 a Spanish-Australian consortium acquired Aberdeen, Glasgow and Southampton airports, just last month it was announced that Chinese, Qatari, Canadian and Spanish sovereign wealth and pension funds are the Airport Commission’s preferred backers for the mooted £18bn new runway at Heathrow.

Disappointingly, this theme is mirrored across almost all other types of infrastructure.

Domestic pension funds would stand to benefit hugely from investing in UK projects. Infrastructure is a great match for pension funds, providing steady returns over the very long term in a way that closely matches their liability profiles.

In addition, if UK pension funds could invest in UK infrastructure it would have the added benefit of providing an economic and a societal boost to the country – a win on both sides.

The crux of the matter is scale. Even for the largest local government pension scheme funds, competing for major infrastructure mandates is challenging.

For smaller funds, these difficulties are magnified to the point of impossibility.

Despite the local authority schemes’ remarkable collective power – if combined the LGPS’s 89 funds would be the sixth largest pension fund in the world in terms of assets, at £190bn – their fragmentation means they are overlooked.

Collective action

While funds of all sizes should be able to invest in infrastructure, some innovative thinking is required to empower them to do so.

To date, where smaller funds have accessed infrastructure, typically it has been through fund managers.

This is expensive, with annual fees of up to 2 per cent on capital invested, and there is usually no way to control where the money goes, so a UK pension fund might end up investing entirely in foreign infrastructure projects.

Not an issue in terms of returns per se, but disappointing when many billions of pounds are still required for UK infrastructure projects.

However, through collaboration, smaller funds can now come to the infrastructure table.

Within the past year, momentum has been gathering within the LGPS behind the concept of voluntary collaboration in order to achieve the scale needed to invest in alternatives.

The London Pensions Fund Authority has signed agreements with the Lancashire County Pension Fund and Greater Manchester Pension Fund, while a group of London councils have come together to form a collective investment vehicle.

More such arrangements are likely to follow.

Collaboration allows LGPS funds to achieve the scale needed to invest in complex asset classes without the loss of local identity – and liabilities – that would occur with a full merger.

It allows funds to pool not only their financial heft but also their human resources.

This is necessary because infrastructure investment demands the utmost levels of expertise and proficiency at board and executive level; something that is highly challenging for smaller pension funds to access.

However, if they collaborate with larger funds they can take advantage of this wealth of knowledge.

Countries such as the Netherlands, Sweden, Canada and Singapore have navigated this difficulty by creating bigger public funds over several years, and the UK should seek to emulate this.

While such arrangements evidentially facilitate investment in more complex alternative asset classes, they also bring further benefits, including economies of scale, greater efficiency in administration and communication, and improved governance.

Pooling should be expanded across the LGPS and more broadly to UK public pension funds.

Sharing knowledge allows all schemes, large and small, to invest in the asset classes they see fit and with the knowledge and expertise they need to compete on a level playing field.

Susan Martin is CEO of the LPFA