The BBC scheme lowered its overall investment management fees by £3m over five years, while further increasing its significant exposure to private markets, a move the scheme says allows it to match liabilities at the same time as generating capital growth.
The £12.9bn fund saw meagre investment returns of 2.2 per cent over the past year compared with an asset growth of 20.1 per cent in 2014-15 and 6.0 per cent the previous year, but comfortably outperformed the WM Pension Fund Universe, an index that reflects average scheme performance.
Meanwhile, it reported a drop in fund charges to 0.11 per cent or £14m in the year under report, from 0.19 per cent of total assets in 2010-11 .
The standard hedge fund cliché of ‘two and 20’ is, in our experience, just not really that relevant anymore
Dan Mikulskis, Redington
James Duberly, director of pensions investments at the scheme, said the efficiencies were due to a number of factors, including renegotiating fee structures with managers.
“We’ve gone to great lengths to ensure that when we allocate new mandates we get value for money,” he said.
He added that, in achieving the scheme’s exposure to illiquid private markets, the trustee board had favoured long-only unleveraged mandates with lower fees over the highly leveraged 'two and 20' that managers often associate with the sector.
“We’re very sceptical of paying managers very high fees to go to the casino on our behalf,” said Duberly.
More criticism of opacity
The debate over transparency in investment mandates surfaced again recently, when a study of public equity funds led by the Investment Association suggested hidden fees were the “Loch Ness monster” of the investment world.
The research provoked an angry response from transparency campaigners, who questioned the findings and said there was a need for specialist governance solutions relating to cost identification.
Duberly said the BBC scheme had voiced its support for an Institutional Limited Partners Association investigation into transparency in private equity, but said he was broadly content with price disclosure.
“I think the information is there, or is generally there, if you work hard to get it,” he said.
Trustees of large schemes may well have the time and expertise to identify hidden costs, but the investment market as a whole still suffers from opacity, according to Hugh Nolan, director at Spence and Partners and president of the Society of Pension Professionals.
“Total expense ratios that include details of how much trading people do are very rarely disclosed,” he said, adding that schemes can also incur unforeseen costs when trading in or out of funds, due to market interest in the fund on that particular day.
Fee structure complexity tends to increase with the complexity of the investment he said, and schemes might also choose funds that are large in relation to the pension scheme, to avoid impacting the price of the fund.
Nolan said trustees of smaller schemes should demand full expense ratios from asset managers, adding: “As always, smaller schemes are likely to pay the penalty here. You have to be pretty sophisticated to realise [the existence of] these swinging unit prices.”
Attractive illiquidity?
Private markets have typically been associated in the past with complex, leveraged and high-risk strategies, carried out by managers charging high fees, but that may now be changing.
“The pressure on fees has certainly been downwards and the standard hedge fund cliché of ‘two and 20’ is, in our experience, just not really that relevant anymore,” said Dan Mikulskis, head of defined benefit pensions at consultancy Redington.
Moreover, he said, many schemes will see the contractual cash flows generated by private markets as an attractive investment given their funding needs.
The BBC Pension Scheme agreed, stating in its annual report: “[Private assets] are not expected to be such an effective short-term hedge for the scheme’s liabilities as UK government bonds, but should deliver higher returns and cash flows that are well aligned to the scheme’s obligations over the longer term.”
The fund’s new purchases in the sector consist largely of assets with stable cash flows, like long-lease properties or infrastructure projects.
“One of the motivations for investing in private markets is to earn an illiquidity premium on the investment,” said Mikulskis, but warned: “One has to take a view on what percentage of their portfolio they are comfortable with being illiquid, and for what period of time.”
He said that while manager selection is important, given the complexities of a successful private market strategy, underlying investments, like lending to small businesses or leasing aircrafts, are relatively straightforward. Trustees should therefore see a full understanding of their particular private market strategy as both necessary and achievable.
He also said leverage was no longer a necessary component of private market strategy. “You can achieve pretty compelling returns without having any leverage.”
