People’s Pension: What kind of institution are we building?

I have previously argued that the UK pensions industry was entering an era of asset ‘owner-isation’.

My key point has been that consolidation and auto-enrolment are creating something the UK pensions market has historically lacked: large-scale asset owners with meaningful investment capability and influence.

The UK has spent 15 years building scale and focusing relentlessly on cost efficiency. Looking further ahead, the next decade needs to be about capability. Scale is an input, not an outcome.

The real challenge is not asset gathering. It is capability building.

International experience suggests that simply becoming bigger is not enough. What appears to matter most is whether organisations develop the institutional capability to make effective use of that scale.

That was one of the motivations behind our latest research with Invesco, our fixed income managers. We commissioned research that reviewed more than 70 studies from around the world to understand what lessons the UK’s emerging generation of large asset owners might draw from more mature systems. 

Three themes stood out.

What makes a strong investment institution?

First, there appears to be evidence for what we termed the “asset ownership premium”. The effect is neither universal nor guaranteed, and it does not appear in every dataset or time period.

Nevertheless, looking across a number of credible international studies, there is a reasonably good case that larger, more sophisticated asset owners can achieve better long-term outcomes than a simple passive implementation at a similar level of risk on average.

The range we identified was approximately 0.25% to 0.75% a year of additional returns. That may sound modest, but over a working lifetime the cumulative impact can be meaningful, potentially increasing retirement wealth by around 35%, or approximately £100,000.

“Where attractive investment opportunities exist domestically, that can help channel long-term capital into productive parts of the economy. Our research suggests the potential macroeconomic impact could be significant.”

Dan Mikulskis, People’s Partnership

The lesson is not that bigger institutions automatically outperform. It’s that institutions that combine scale with capability appear more appropriately positioned to convert long-term advantages into better member outcomes.

Second, stronger asset ownership may create benefits beyond pension outcomes. More sophisticated institutions often have greater ability to invest efficiently in private markets.

Where attractive investment opportunities exist domestically, that can help channel long-term capital into productive parts of the economy. Our research suggests the potential macroeconomic impact could be significant.

Insourcing versus outsourcing

Third, and perhaps most interestingly, there is no single model for success. 

Some leading asset owners execute a substantial proportion of activities internally. Others operate with relatively lean internal teams while retaining close relationships with external managers and specialist partners.

The organisations that stand out are not necessarily those that insource the most. Rather, they tend to be those that are particularly clear about which decisions they retain, which they delegate and how accountability is maintained.

A new insight developed in the report is a shift away from thinking purely in terms of outsourcing or insourcing of investment activity. The report highlights a pragmatic ‘hybrid’ model of asset ownership. Under this approach, UK pension schemes retain greater control over strategic investment decisions while partnering with a smaller number of specialist providers to access capabilities, scale, and expertise. 

Ownership is often confused with internalisation. In reality, ownership is less about who performs a task and more about who remains accountable for the outcome.

Lessons for UK asset owners

The defining characteristic of a strong asset owner is not that it does everything itself. It’s that it knows which decisions matter most, retains responsibility for those decisions and builds the governance to execute them consistently.

That distinction feels increasingly relevant in the UK.

As schemes grow, there is a natural tendency to focus on portfolio questions. How much infrastructure should we hold? What role should private equity play? Should we build direct investment capabilities? Which activities belong in-house?

These are important questions, but they are not the starting point.

Before deciding what to invest in, we need to decide what kind of investment organisation we want to become.

For some institutions, that may mean building substantial internal capability across a wide range of activities. For others, it may mean retaining a relatively small team while exercising strong oversight of a network of external specialists. Both approaches can work.

Indeed, some of the most interesting examples internationally are organisations that have deliberately adopted partnership-based models. They retain control of objectives, governance and key investment decisions while drawing on specialist expertise where it adds value or where it is more efficient to do so (e.g. index-tracking, dealing and order management). Rather than attempting to do everything themselves, they focus on being effective owners of the overall investment process.

There may be important lessons in that approach for the next generation of UK asset owners.

Don’t ignore domestic strengths

Finally, a key counterpoint stood out. In looking to the best of overseas pension systems for examples, we shouldn’t lose sight of what distinctive characteristics have already made the UK defined contribution system great.

A focus on simple, low-cost, liquid and value-for-money approaches has driven fantastic returns of 9% or more a year on average over the last decade – in many cases in excess of those in the much vaunted Canadian and Australian systems.

The UK pensions industry should be proud of what it has achieved.

“The asset owners that succeed will not necessarily be those that become largest, nor those with the lowest costs. They will be the ones that work out how to turn scale into better decisions and ultimately better outcomes for the members they serve.”

Dan Mikulskis, People’s Partnership

Auto-enrolment has allowed millions of workers to benefit from pension savings. A relentless focus on cost has helped those savers keep more of their returns. Consolidation is now creating institutions with unprecedented scale.

Cost matters. Scale matters. Both have the potential to improve outcomes for members. But neither is an outcome in itself.

The more interesting question is whether we can convert those advantages into better investment institutions. Institutions with clearer beliefs, stronger governance, better decision-making and a greater ability to act as genuine long-term asset owners.

For much of the last 20 years, the industry’s focus has been on efficiency. More recently it has been on scale. Looking ahead, I suspect the defining challenge will be capability.

The asset owners that succeed will not necessarily be those that become largest, nor those with the lowest costs. They will be the ones that work out how to turn scale into better decisions and ultimately better outcomes for the members they serve.

Dan Mikulskis is chief investment officer for the People’s Pension.