The problem with the London superfund…

Agent 151 is a senior local authority finance director and S151 officer writing exclusively for Room151. 

My old pals who are London finance directors are shaking their heads over the first pronouncements of Edmund Truell, the new chairman of the London Pensions Fund Authority (LPFA).

Truell has announced that he plans to merge the London borough funds into a single scheme.  This is not a new idea. Indeed, the LPFA has been pursuing it for some time, and last year commissioned a rather one sided report by the Cass business school in support of its arguments.  Sitting behind the plan is the idea that ‘size is important’ in the pensions world, and this view is to some extent supported by the Hutton review of public service pensions, which found that collaborative working could achieve efficiency savings.  The total value of the assets of the funds of the thirty two London boroughs, LPFA, and Transport for London is in the region of £40bn, a very respectable size if merged – indeed the total value of local authority funds in England was recently estimated at £150bn, with Greater Manchester weighing in at over £11bn and county funds up to around £4bn apiece.

The hypothesis behind Truell’s plan is presumably that merging the borough funds would make large savings in investment management charges and administration costs, and it is hard to argue against this.  Truell goes further, however, making the accusation that public pension funds “have not been monitoring investment managers well and have not kept an eye on the asset classes their money is in.”  Ignoring the uninformed insult, the hypothesis here appears to be that greater size breeds better quality, and this is problematic. Local authority funds are the recipients of top notch expert advice on investment.  Can a larger fund expect better advice simply by dint of its size?  Do larger funds always perform better?  I think not.

Truell also says that public pension funds have underestimated their liabilities. Again, can a bigger fund expect better actuarial advice?  If anything, the advice is likely to suffer as a result of complexity: a single fund with multiple employers on the scale he is envisaging would undoubtedly be a major headache for any actuary.

The creation of a superfund for London (if you’ll pardon the pun) also raises the question of whether democratic accountability for fund management will be lost, or at least muddied.  At present, the level of employer’s contribution made by each council impacts directly upon their council tax rate decision.  This direct relationship will be lost, as under Truell’s proposal performance will no longer be directly attributable to local decisions.  Is this important?  Well, with the DCLG busy undermining councils’ discretion to increase council tax by imposing an artificially low limit beyond which a local referendum is required, it appears that they, at least, don’t think so. But council tax payers might prefer accountability through the ballot box to none at all!

Presumably in order to drum up political support for LPFA’s scheme, Truell has also announced that the merged fund would channel more investment into London housing infrastructure.  This is a desire voiced by a range of senior politicians, including Boris Johnson and Eric Pickles, and on the face of it is an attractive proposition, although it is, of course, not at all dependent upon a merger of funds.  However, the problem with this idea is that it assumes that there is a huge list of housing and infrastructure projects that will generate decent and stable returns which can’t get off the ground because there are no funders coming forward.  This is patent nonsense.  Are we therefore to understand that in return for political support the new merged fund would get infrastructure projects away by accepting a lower or more risky return than the market would?.  Social benefit as an element of the return is desirable, but not, as any trustee worth their salt will tell you, at the expense of hard cash!  The fact is that it would potentially be unlawful for any council (as trustee) to take decisions in relation to its pension fund on the basis of considerations other than the best interests of that fund.  So any overtly political manoeuvring by Mr Truell on infrastructure investment may ultimately be self-defeating, rendering it impossible for London boroughs to sign up to his proposals.

A more sensible approach is being proposed through the Society of London Treasurers, which consists – in essence – of the boroughs acting together to join, or create, investment funds.  This proposal allows them to enjoy the benefits of size without the difficulties of merging.  Councils will retain asset allocation and funding strategy decisions, but investments will be aggregated generating cheaper management fees and procurement costs.  We must hope that Mr Truell is willing to engage with this, much less controversial, proposal.  In the meantime, we can watch as he holds the LPFA management to account for not having monitored their investment managers well and not having kept an eye on the asset classes their money is in, whilst they sell off their gilts and plough the money into London housing and infrastructure projects!

Of course, any portfolio really ought to make an attempt to balance risk effectively, and the risk generated by a geographical focus on London really ought to be diversified away by investing elsewhere too.  Which gives me an idea!  Dear Mr Truell…