Nearly a thousand pension managers, trustees and advisors were in Edinburgh last week for the Pensions and Lifetime Savings Association Investment Conference.
It came at a time when the amount invested in alternatives by UK pensions is on the rise. The average allocation by UK pensions to alternatives was 22 percent in 2017, according to consultancy Mercer’s European Asset Allocation Survey, compared to just 4 percent in 2008.
Although many of the pension fund managers, trustees and advisors who attended the conference emphasised the need to invest in alternatives to increase returns, most viewed private equity as one of the least attractive illiquid asset classes. Here are some of the main reasons why.
Iliquidity and the changing needs of the investor
The longstanding issue of liquidity raised its head repeatedly. The move from defined benefit pensions towards defined contribution schemes means that individuals now have to receive daily pricing. According to one trustee of a London pension fund, whose fund has some investments in real estate but none in private equity, many don’t want to lock their cash away for the long haul and are less willing to put up with the J-curve that characterises the early years of a private equity fund’s life. While most of those were familiar with the secondaries market, none viewed it as an easily accessible way of freeing up liquidity.
Despite efforts by limited partners, private equity managers and regulators, the word ‘opaque’ was frequently used by conference delegates to describe the private equity industry. Hidden fees and a lack of transparency over the financial engineering carried out on portfolio companies were two commonly cited problems. One pensions advisor and executive board member zoned in on deceptively worded clawback clauses, which in her view fail to stop fund managers accruing more than their fair share of fees.
“Many trustees are not clued up enough to see they’re being shafted by PE… A lot of investment advisors are clueless as well,” she said.
Other alternatives fill the gap
Growing numbers of UK pension funds are cashflow negative – the pension payments they have to make outweigh the employee contributions they receive. For many the priority is to diversify to generate returns but to do so in a way that guarantees cashflow. Asset classes such as real estate, private debt and infrastructure may require pensions to lock away cash for the long haul, but the steady income they bring offsets the liquidity concerns that affect private equity, according to one director of defined contribution schemes at a global asset manager.
Pension pooling has created uncertainty around alternatives
The big story in the UK pension industry over the past few years has been pension pooling – the merging of the UK’s 89 local government pension schemes into eight regional schemes to improve transparency and reduce costs. The process is in motion but there are still questions about how alternatives fit into these new structures.
In April 2017 the Local Pension Partnership, an amalgamation of the London Pensions Fund Authority and Lancashire County Pension Fund, set up a £1.8 billion ($2.5 billion; €2 billion) private equity pool, giving some idea of how this might be done. According to one trustee of a London fund, other pension schemes will want to see how well such forerunners go before making further investments in asset classes such as private equity.