As pools take over manager appointments and some monitoring of their success, many envisage a more niche role for consultants focusing on asset allocation. Jimmy Nicholls reports
Consolidation in any market is likely to worry those on its sidelines, and the pooling of assets for investment within the Local Government Pension Scheme (LGPS) is no different.
However, it is an odd sort of consolidation. In other industries mergers and acquisitions reduce the number of participants, leaving business-facing firms with fewer clients. Pooling has consolidated some functions within new organisations but left the old funds standing and still retaining some functions.
For consultants that under the old system were involved in investment strategy, manager appointments and the monitoring of how well those managers were doing, this has left them in a strange place.
“I think consultants are probably very nervous with what is going on,” says Eric Lambert, an independent investment adviser. “And I think pooling itself, both on a fund and pool level, will probably reduce the number of broad-spectrum consultants in the market, while opening up opportunities for a more diverse set of specialist consultancies.”
The main change in the consultants’ role is that implementation of investment strategy, seen most noticeably in the appointment of managers, is passing from the funds to the pools. This was a significant slice of the business of consultants. Pooling reduces the number of managers needed while encouraging pools to develop the expertise needed to do the appointments in-house.
“Manager selection and subsequent monitoring and releasing would have been the consultant’s biggest regular activity by far with funds, and it’s quite a significant remit,” Mr Lambert says. “A typical LGPS fund has around 12 managers, which would almost guarantee at least one re-selection every year.
“Consultants will be somewhat worried by the advent of pools in manager selection. Where pools have got the appropriate skills and resources they will probably say they’re going to do manager selection themselves.”
William Marshall, head of LGPS investment clients at Hymans Robertson, one of the main consultancies working in the LGPS, partially agrees. “Consultants were often involved in helping appoint the people doing implementation. Now the pool is going to be the implementer – effectively the asset manager,” he says.
“A simplistic view of our job means the work we’d do on manager appointments has fallen away. With pooling coming that’s already fallen away from our business model, because people have not been doing the same number of appointments in anticipation of pooling taking place.”
The situation is, however, not universally true – a consequence of the divergent pooling set-ups being pursued.
“The extent of the change depends on the pooling model that’s in place,” says Andrien Meyers, head of treasury and pensions at Lambeth LBC,and senior policy adviser at the LGPS Scheme Advisory Board.
“For example, in the Local Pensions Partnership (LPP) model the strategy is set by the pool, the hiring and firing of managers is done by the pool, and the monitoring by the pool,” he says.
“However, if you look at the London Collective Investment Vehicle [CIV] model, then the underlying funds still set the strategy, and to an extent the underlying funds still appoint managers if that particular investment strategy is not offered by the pool.”
Consult a specialist
So manager selection, by common agreement, will be less of a money spinner for consultants. However, there are opportunities opening up for consultants working with the funds on investment strategy, and many suspect there will be more work for specialists.
For Mr Marshall, focusing more on investment strategy will be a good thing for the LGPS. “There’s a number of different academic studies that suggest investment strategy should add north of 70% of total returns, so spending more time talking about strategy, rather than manager issues, makes sense,” he says.
“We’re seeing in our role as consultants the focus on strategy and structure will remain, and there’s more time in the agenda now for people to focus on that. We’re hoping that’s where people will focus those resources.”
LGPS consulting has been dominated by the likes of Hymans Robertson, Mercers and Barnet Waddingham in recent years.
Why wouldn’t we want to pick the very best in activity A, activity B and so on?
“[In the past] it was typically a retainer relationship and of course the consultants want that,” Mr Lambert says. “They’d much rather have that than just be called in to pitch for each segment of business.”
However, according to Mr Lambert, funds are increasingly looking to pick specialists for different functions rather than having a broad relationship. “Why wouldn’t we want to pick the very best in activity A, activity B and so on? Pooling, and the consequent focus at the fund level on strategy, encourages this segmentation,” he says.
There are already moves in this direction. “I agree that there may be more scope for specialism with consultants,” Mr Meyers says.
“That’s something we changed at Lambeth. I was a firm believer in not keeping a consultant on any retainers because I knew what was going to happen with pooling. We use a plug-and-play model so we only get a consultant when we need them to do a specific piece of work do. If not we won’t use them.”
In the case of Lambeth, Mr Meyers says he has separate consultants for monitoring, governance, strategy and admin. As the fund is going into private debt as a new asset class, it is using a consultant who is an expert at finding fund managers that deal with that.
Although not everyone is taking this tack now, many are aware of the model and might opt for it in future. “A lot of people are still using consultants in a broad sense but are very much aware of the plug-and-play model. And there’s been quite a few funds that have moved towards that model already,” Mr Meyers says.
“At the minute we’re still in transition. We’re still at the stage where the assets are being split between the funds and the pools. I wouldn’t be surprised if in the next four or five years a lot of the funds used this model going forward.”
Mr Marshall says: “I can see the pools using specialist consultants for certain assets where they’ve got a lot of in-house resource and they want some depth of knowledge in one area. At a fund level, because the funds have been spending more time thinking about high-level strategy, I think there could be more strategic specialists.”
Phil Triggs, tri-borough director of treasury and pensions at Westminster City Council, says: “If funds are looking for strategies for diversification, enhanced returns or specialist fields of investment then they can seek the advice of the consultants. But it is for the pools to provide those solutions.”
Mr Marshall adds that there were opportunities for funds to put in place multiple strategies to suit the different employers affiliated with them. Given the different relationships certain employers have with a pension scheme, this can sometimes make sense.
“Historically some funds with different employers just had one investment strategy that covered all employers,” Mr Marshall says.
“What we’ve seen is some funds now put in place multiple strategies, typically three to four, which may be more reflective of different employers’ objectives. There’s a bit more bespoking of strategies. It’s going to take a bit of time for the shift to this to occur but that’s where we see the general direction.”
Mixing the monitors
Monitoring investment managers is another function of concern to consultants that is split between the pools and the funds. Keeping tabs on their success informs later strategic decisions and appointments.
“The monitoring to me is 50:50,” says Mr Meyers. “If the pool is managing most of the fund’s assets then the monitoring and reports will come from the pool, but the funds still need to monitor the investments so there will be a role for the consultant in terms of the monitoring.
“It might not be as detailed as it was before but there will be some sort of role because, on a quarterly basis, this information still needs to be presented to committee members.”
Mr Marshall agrees that monitoring would remain part of consultants’ remit in the LGPS. “As well as helping funds think about high-level objectives and strategy, both at a main fund and employer level, there will be a bit about how they monitor the pool,” he says.
“This includes asking how the transition has gone but also, once the pool is up and running, what KPIs [key performance indicators] are put in place, what the level of interaction is with the fund, and how you make sure the pool is offering solutions and strategies that will help meet the fund’s strategic needs.”
Pooling means our business model is going to have to evolve
The Hymans’ consultant added that his company is trying to get funds to think more about their funding situation. “We hear a lot of people saying they want to be fully funded but it’s getting them to think about what that means,” says Mr Marshall. “What are those strategic objectives and how can we design the strategy to give the best chance to meet them?
“We encourage funds to think about what their long-term target contribution range is, and then design a strategy that gives the best chance of keeping within that range. We want to help funds de-risk where it’s appropriate to do so, but you don’t want to take too much risk off the table so you’re challenging how affordable the fund is.”
Ring the changes
There is no doubt that things are going to change for the consultants orbitting the LGPS. “Pooling means our business model is going to have to evolve. The LGPS world is going through structural change and it’s important our model changes as well,” Mr Marshall says.
“Although the manager selection side’s fallen away, greater focus on strategy suits us and there seems to be a lot more focus on governance related aspects, all of which we support.”
Mr Meyers envisages a significant role for consultants going forward, albeit one that has changed since pooling occurred. “I still think the consultants need to be involved with the funds and the pools because the entire role or the function of how investments are managed doesn’t change. It’s just that there’s certain elements that are being split between the fund and the pool,” he says.
“The consultants still advise us on strategy and regulation requires us to take appropriate advice. When there’s certain pools that don’t have that in-house expertise, or are still building it, they will still need to use consultants in helping hire or terminate those managers.”
Not everyone is so upbeat about the future for consultants. “It’s difficult to see how consultants’ world of opportunities isn’t both changing fundamentally and potentially shrinking. There’s no doubt to me that pools are going to replace some of their functions,” says Mr Lambert.
“Every few years a specific consultancy promotes a differentiating activity to their clients: in my experience these rarely add significant value. One of the reasons independent investment advisers like myself have such a strong voice in this market is because clients want to know if the consultant is talking their book [giving advice that benefits them] or talking for the benefit of the fund.
“Pure broad-spectrum consulting is eroding and opportunities are opening up for specialist players. The current stranglehold by those two [or] three consultancies is breaking down to some extent. Other consultancies, such as Willis Towers Watson, might also be interested in re-entering the market given the size of the pools.”