LGPS Q&A: Peter Wallach on the Northern Pool, infrastructure and downside equity protection

Merseyside’s director of pensions, Peter Wallach, offers an update on the progress of the Northern Pool and reveals his views on infrastructure and providing downside equity protection to individual employers within the scheme.

Room151: Can you give us an update on the Northern Pool’s development?

Peter Wallach: Yes. Firstly, in terms of governance, we are still operating as a shadow joint-committee, but we are hoping to formalise that in the next few months. Much like the other pools have done, constitutionally, the three funds [of the Northern Pool] now need to go to the councils of their respective authorities and seek approval for our final recommendations.

Room151: What will you be seeking approval for?

PW: The joint-committee will comprise three representatives from each fund; two councillor representatives and one member representative.

In terms of the underlying management structure, that side is still developing. At the moment, certain alternative assets are already being managed on a pooled-basis and we’re working on the areas where they are not.

And that’s partly because of the size of the mandates we have; each fund has substantial mandates on the liquid side, there is limited overlap and few savings from pooling those further, but that will remain under review.

The focus has been on delivering where there are potential cost savings, and those arise more easily from alternatives. All three of the funds are investors in GLIL which now has commitments of £1.275bn, £800m of which has been invested in UK infrastructure.

Room151: As yet there is no decision as to what type of vehicle the pool will operate under? An ACS, for example?

PW: There is no final decision.

Room151: When are you expecting to have one?

PW: Later this year.

Room151: And what will be the timetable for transitioning assets once that decision is made?

PW: Very quick, because our view is the way the pool will operate is not too dissimilar from the way things are currently structured.

Effectively a number of segregated mandates will be overseen by the pool, so the assets will be managed on a pooled basis. But the assets themselves will only be pooled where there are cost savings arising, or a regulatory requirement to do so.

Room151: There’s a perception, perhaps this is a function of working down south, that there’s a certain opaqueness about the Northern Pool, compared to the other pools. Do you think that’s fair?

PW: I think it’s fair to say that there has been less publicity about the Northern Pool, but I think that is partly because we’ve just got on with delivering the four things that the government asked of us.

The first question was about scale and, like the other pools, we’ve delivered on that with assets of over £40bn. The second requirement was strong governance and we believe that the joint committee, when formalised, will certainly deliver that. The third question was on cost savings. Now, all three funds are fairly cost effective anyway, as big funds, but there are further cost savings to be driven out of alternatives.

As well as the infrastructure work, we’ve set up a private equity pool vehicle for collaborative investment, and the first investment is expected to be made later this month.

Importantly, of course, the fourth area was about having the capability and capacity to invest in infrastructure. And again, we’ve delivered on that.

Those were the questions that the government asked and those are the answers that we’ve provided. We’ve just felt less of a need to broadcast what we’re doing.

Room151: When people want to speak to the Northern Pool, who should they call? Would it be useful to have a single point of contact?

PW: You’re correct that at the moment that doesn’t exist, but I think that side of things will take shape along with the governance arrangements to be formalised at the end of this year.

Room151: Turning to infrastructure, there is a lot of money invested through GLIL but also a lot still waiting to be deployed. Is it going to be difficult to invest that money?

PW: No. I’m slightly surprised because it is regularly said that it is difficult to put money to work and at one level that’s true: infrastructure assets in general are pretty fully priced, it’s a competitive market, and there’s a lot of dry powder out there.

So, you do need to be careful. Anyone can put money to work, but it’s got to be in a sensible way.

We have some long-established relationships, and certainly GLIL, which has put £800m to work in three years, holds half a dozen investments, which I think will all prove to be very good investments over the long term.

It would be helpful if there were more commonality of approach within the LGPS as infrastructure is an area where size of assets is an important consideration.

Room151: Does the LGPS need a cross-pool solution to infrastructure investing?

PW: Yes, it does. There is a cross-pool infrastructure sub-group, which is certainly a forum where these kinds of conversations can take place.

I think there are two credible LGPS infrastructure initiatives: one is GLIL, the other is PIP. PIP is hybrid in the sense that there are some private assets as well as public assets invested.

But, I think they’re both credible, in terms of platforms for putting infrastructure money to work in a more cost-effective and more coordinated way.

Room151: GLIL’s performance has been quite strong. Why do you think it hasn’t managed to attract more assets from the other pools or administering authorities?

PW: I think the short answer is that it only became FCA regulated on March 31st this year. Up until that point it was quite difficult for other investors to join because it was set up as a joint venture, rather than as a regulated entity.

Now that that regulation has been put in place, there have been some expressions of interest.

Room151: What role do you think GLIL plays — or the Northern Pool plays — in the vision of the Northern Powerhouse?

PW: You’ll be aware that at one point we were briefly called the Northern Powerhouse Pool, and we deliberately dropped the powerhouse part of the name because we didn’t want to be associated with an initiative that may, or may not, be successful.

Room151: Are you sceptical about its chances?

PW: Well, clearly, it’s reliant on political support, and it remains unclear how much political support there will be for the northern powerhouse. I would say that the Northern Pool would like to have a role in supporting those types of initiatives, in the north-west, to the extent that they’re commercially viable.

Room151: We’ve spoken before about housing and regeneration and the Merseyside Pension Fund has made some investments in housing locally. Is it fair to say that you would like to invest more in the regeneration of the North, inside or outside of the Northern powerhouse initiative?

PW: Yes, it would. I think that where the right governance can be put in place, particularly around managing conflicts of interest, and where there are viable commercial returns and appropriate risk controls in place, then I believe it’s appropriate for administering authorities, and their pension funds, to think whether that suits them philosophically. And if it does, it’s a good thing to do.

Room151: Turning to the markets, equities have looked quite high for some time. Where do you stand on the protection against downside equity risk?

PW: For us it seems sensible, I think funds should look at it on a case-by-case basis, but it’s also partly being driven by the variety of employers that we have in the fund. We’ve actually had one or two employers approach us to ask us about ways of protecting their funding position.

We have about two hundred employers in the Merseyside pension scheme, some of those are private sector companies, and because they have to report their liabilities on their balance sheets, some have come to us and said, “We’ve seen an improvement in our funding position and we’d like to talk to you about ways to protect that.”

One way you can do that is from an asset allocation point of view, having a lower proportion of risk assets and a higher proportion in lower risk assets, or the alternative is having some sort of protection structure in place.

Room151: Where you are now with this?

PW: We have just published a public tender for expressions of interest from providers of protection strategies. I’m proposing to put a framework in place.

In fairness, a number of LGPS funds have already put downside protection strategies in place and, from what I’ve read, they look interesting. I’m still answering the question of whether it’s the right thing for the fund or not.

By putting a framework in place I’m getting a better understanding of the different types of strategies available. Once that framework is set up I can use it to call down the most appropriate strategy for a single employer and I can also decide whether or not it’s right to apply a strategy at the fund level.

Room151: And what other initiatives is the fund currently undertaking?

PW: We’ve been looking for ways to increase the proportion of internally managed assets, and one way to do that is to create an internal multi-factor equity portfolio. We’ve been doing a huge amount of testing and modelling on a variety of approaches.

We’ve also been working with FTSE Russell in terms of giving ourselves assurance about the process we plan to use. It means that we can harness some of the technology that we have in house — things like Bloomberg which is expensive but has huge quantities of financial data — and provide ourselves with a solution which is less dependent on human resources.

That’s very helpful for a fund like Merseyside. The testing has proved to be satisfactory and now we’re working on the operational aspects, around dealing, settlement, transparency, all those sorts of things.

Room151: What can you tell me about these sorts of factors in the new vehicle?

PW: We’re proposing to incorporate five factors: a value factor, quality factor, momentum, small cap, and low volatility. Research suggests that by blending them it reduces some of the cyclicality of the factors.

Perhaps where our approach is slightly different from a number of smart-beta, or factor investors, is that we’re equally weighting the factors, whereas most multi-factor strategies have varied weightings.

Room151: What outcomes are you looking for?

PW: We’re expecting to outperform a market cap benchmark, by around 1% over the long term on an annual basis, which would be an excellent outcome if we’re able to achieve that.

Room151: What will the geographic split look like?

PW: It will, effectively, be a global portfolio but made up of five constituent portfolios. The reason for having five constituent portfolios is to do with managing geographical bias.

If, for example, Japan scores really well on value, and you have a global unconstrained multifactor portfolio, you’d find half of your portfolio ends up invested in Japanese stocks.

To manage that without putting artificial constrains in place, we’ll be running five equally weighted geographical portfolios. We believe that optimizes the factor efficiency of these portfolios and will also avoid unintended geographical biases.

Peter Wallach, director of pensions, Merseyside Pension Fund

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