A solution for the regeneration of Britain’s infrastructure could come from pensions, as superfunds could help plug the UK’s £1tn infrastructure gap. However, specialists believe it will be difficult for schemes to achieve the scale needed for these investments to be successful.
In a report published on June 15, the Social Market Foundation argued that pension superfunds should be created to invest in infrastructure for Britain’s green recovery.
The think tank argued that the government should encourage UK pension funds to merge into fewer, larger funds able to invest large sums in big long-term projects, as “building new roads, power sources and communications networks could create much-needed jobs and make Britain’s economy more productive and resilient”.
Insurers and other pension risk transfer providers could also play a part since, according to a report from Legal & General, they are ready to invest up to £190bn into UK infrastructure over the next decade. This would plug almost a fifth of the UK’s infrastructure funding gap, which the insurer noted sits at £1tn.
When you start introducing other non-pensions motives for encouraging ‘urgent’ consolidation, we risk seeing the original purpose of providing pension schemes getting pushed down the pecking order of priorities
Alistair Meeks, retired pensions lawyer
Insurers’ patient capital “can harness the power of pensions and create a virtuous circle where older UK savers are delivering regeneration, jobs, housing, transport and renewable energy investment for other generations”, said Chris DeMarco, managing director of UK pension risk transfer at L&G Retirement Institutional.
UK schemes lack scale
Despite the willingness from insurers to plug the infrastructure gap, specialists are more doubtful about the role to be played by defined benefit schemes.
Nick Evans, partner for investment advisory at Isio, noted that pension funds in countries such as Australia and Canada have been successful in investing in infrastructure, mainly due to their scale, but the situation is not the same in the UK.
“While Local Government Pension Scheme pooling has created larger, open DB schemes that are more suited to infrastructure investment, allocations have been very slow to build and are still below 5 per cent on average,” he explained.
Penny Cogher, partner at Irwin Mitchell, noted: “The reality is that the UK pension system is very fragmented and it’s not likely to be changed into five superfunds any time soon, unlike Australia, Canada and the Netherlands.”
SMF’s suggestion of funding infrastructure with pension money is not groundbreaking, as for years people have believed pension fund cash could be the solution to Britain’s dilapidated roads and energy shortfalls.
One of the main criticisms to the report is that it “may be well meaning, but displays a tin ear on the purpose and structure of the UK pensions market”, argued Neil McPherson, managing director at Capital Cranfield.
“It shows scant interest in member outcomes, the raison d’être of pension funds,” he added.
Investments might not be suitable
Another issue to consider is the risk of the investment, pointed out Alastair Meeks, recently retired pensions lawyer at Pinsent Masons, who stated that “numerous infrastructure projects of great public benefit were disastrous for the investor” such as the Panama Canal, the construction of Britain’s railway network and Canary Wharf.
There are practical problems too, such as the lack of supply of assets at the right risk and return levels, according to Dan Mikulskis, investment partner at LCP.
He said: “The government could look to incentivise the development and bringing to market of a steady supply of the sort of assets and projects that pension schemes have an appetite for. Investors are seeking to fund attractive projects at low interest rates that are a potentially good match for pension schemes.”
Many pension funds are accessing infrastructure by multi-asset credit funds, which Mr McPherson said offered a more diversified portfolio than investing in UK infrastructure.
“Schemes should not restrict their investment universe to the UK just because the government’s Brexit policy has caused a massive hole in infrastructure funding – up to a third according to the SMF report – by cutting off the European Investment Bank tap.”
He stressed that a “fundamental tenet” of the UK pension sector is that asset allocation is determined by the trustees and their advisers, increasingly with the agreement of the sponsor, and it should not be determined by the government.
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“Previously sacrosanct national pension funds were raided after the financial crisis across eastern Europe and as close to home as Dublin,” Mr McPherson said.
“Arguably, ‘directing’ UK schemes to fund infrastructure after decades of government neglect follows the same path, which does not necessarily lead to better member outcomes.”
Mr Meeks, who believes there are good pensions arguments for encouraging consolidation into superfunds – which received the green light from the Pensions Regulator on Thursday – agreed with Mr McPherson.
“When you start introducing other non-pensions motives for encouraging ‘urgent’ consolidation, we risk seeing the original purpose of providing pension schemes – to provide for people’s old age – getting pushed down the pecking order of priorities,” he said.
“For pension schemes, that should always stay the top priority. Keep the horse in front of the cart.”
