Charlotte Moore assesses the LGPS landscape following the passing of the government’s April deadline and its likely impact on infrastructure and other alternative assets.
A key impetus for the introduction of pooling to the Local Government Pension Scheme is to facilitate the ability of local authorities to invest in infrastructure. Now the government’s April deadline has passed, pools are starting to think about investing in toll roads and housing as well as other alternative assets.
As Phil Triggs has highlighted elsewhere, the approach taken by each individual partnership reflects a number of different factors. These include existing familiarity with assets such as property and private equity, the vehicle’s structure and how far along they are with pooling process.
The London Collective Investment Vehicle was a trailblazer, with the bulk of the assets of London boroughs pooled – equities represent 60%, while 18% are allocated to fixed income strategies.
However, there is little existing allocation to infrastructure: it is only 1%. Mark Hyde-Harrison, chief executive officer of the London CIV, says: “There is a desire to increase the infrastructure allocation. It’s best if all the local authorities in the pool take the same approach.
“That requires thinking carefully about how the investment is structured and how it fits with the local authorities’ capabilities to invest in an illiquid asset class.”
Local authorities have traditionally implemented an investment strategy by picking a manager and allocating funds to that strategy. For an infrastructure investment, the scheme needed to decide whether it wanted to use a listed manager, a closed- or an open-ended fund.
Mr Hyde-Harrison says: “Each of these options has issues which can detract from the benefits of investing in infrastructure.”
Pooling assets allows local authorities to use scale to side-step these limitations. The investment can be spread across a number of years and partnerships can be formed – including with other pools. Mr Hyde-Harrison says: “Local authorities can then tap into the inherent advantages of infrastructure such as the illiquidity premium and the reduction in costs.”
It may be well worth working in partnership with other funds, but first each individual pool’s infrastructure strategy and structure need to be in place.
Coming up with an investment strategy has two parts. The first is to determine how the assets should be pooled. That requires identifying the points in common: what are their investment goals and how much do they want to allocate?
The amount of money available and the investment goals will determine what investments can be considered. Once these goals for the pool are in place, however, this allocation can be with the partner funds.
Partnerships sharing the same goals will be able to invest together. Mr Hyde-Harrison says: “I can envisage a scenario where we work with different pools on different projects depending on how our interests align.”
While creating an infrastructure investment for London’s CIV would be a new asset class, other local authorities already have allocations to other illiquid alternatives. These include private equity, property and private debt funds.
Pooling these funds is more complex than for more traditional assets, as most of these funds are held in closed-ended vehicles. Trying to sell these assets in the secondary market would likely result in significant costs, and possible losses, for the partner fund.
I can envisage a scenario where we work with different pools on different projects depending on how our interests align
Mark Hyde-Harrison, chief executive officer of the London CIV
Andrew Warwick-Thompson, chief executive officer of LGPS Central, says: “It makes better sense to allow these assets to reach maturity before transferring them across to the pool.” That process could take many years, however, as many of these assets have a long investment horizon.
Mr Warwick-Thompson adds: “We intend, however, to launch private equity, infrastructure and property funds for new allocations and contributions.” These funds will be ready to receive the existing allocations once they have matured.
Border to Coast also has the advantage of existing alternatives expertise within its partner funds. It hopes to go live with its first alternatives sub-funds towards the end of the year. Rachel Elwell, chief executive officer for Border to Coast, says: “The first will be a private equity sub-fund, and we will follow up with an infrastructure one in early 2019.”
Other alternative funds will be developed, of which private debt is likely to be the first. East Riding and South Yorkshire – two of the pool’s partner funds – have a reasonably wide range of existing alternative investments that are managed internally.
Ms Elwell says: “The staff from these organisations will be transferring into Border to Coast, giving us experienced portfolio managers who will then work for the benefit of all 12 of our partner funds.” Even with this in-house expertise, however, alternatives launched by the pool will not be managed directly, at least not initially.
Ms Elwell says: “To begin with, we will be investing into funds, limited partnerships and some co-investment.”
Deciding whether to manage the sub-funds in-house or externally is a decision that needs to be made in consultation. Ms Elwell says: “We talk to our partner funds to determine where they want to invest and then assess whether we have capabilities in-house or if we need to work with an external manager.”
Consolidation and economies of scale
This is not the only tricky decision pools will have to make. Pools need to ensure they provide the sub-funds their partners want to access while not simply replicating every existing vehicle. Unless the pool consolidates the number of options, it cannot make the most of economies of scale.
Ms Elwell says: “We will develop what our 12 partners need. But there is a process in place to ensure there is a good understanding of what is needed and the cost implications of building any particular sub-fund.”
Like Border to Coast, Access also wants to allow the partner funds to benefit from the existing relationships within the pool. Andrew Reid, chairman of the Access pool, says: “If the partner funds are happy with those funds, they can be their first investment opportunity.”
There is considerable variation among Access’ partner funds – Suffolk has allocated close to 30% of its assets away from equities and bonds, while others have no alternative assets. Other funds could also be added, which will be selected by Access’ outsourced pool manager.
Mr Reid says: “It would be possible to create another vehicle to meet a partner fund’s requirement but this will have to be balanced against the additional costs.”
The Wales Pension Partnership (WPP) is the other pool that has opted for outsourcing management of its pool. It is currently considering its infrastructure investments alongside the liquid assets of the eight administering authorities.
Carmarthenshire CC is the host authority for the WPP. Its treasury and pension investments manager, Anthony Parnell, says: “We have commissioned a report on infrastructure which will look at local and national investment opportunities.”
One such national platform – GLIL – was established in 2015 by the London Pensions Pension Fund and Greater Manchester Pension Fund as an infrastructure joint venture. It has been expanded to include a number of other funds, including those in the Northern Pool.
Susan Martin, chief executive officer of Local Pensions Partnership (LPP), adds: “This infrastructure partnership is open for business from other LGPS funds.” LPP is also interested in property funds, including both commercial and residential. Ms Martin says: “We already have a range of assets, which include privately rented and student accommodation.”
LPP also has an allocation to private equities. Ms Martin adds: “We invest in alternatives either directly, in co-investments with other institutional investors or through funds which give us an opportunity we cannot access elsewhere.”
Brunel has decided to set-up its own in-house alternatives team. Mark Mansley, chief investment officer of Brunel, says: “While we have selected external managers for most of our funds, we have set up an internal private markets team.”
We have a lot of interest from potential partners, particularly in infrastructure. We do not, however, see a case for a single, centralised approach to working together on infrastructure
Mark Mansley, Brunel
The pool has decided to set up five private market portfolios – property, private debt, private equity, infrastructure and secured income. The secured income is a combination of long-lease property and more mature infrastructure assets.
New money can be allocated to these portfolios. The pool is also working to take over the day-to-day legacy assets and bring those into some more common frameworks over time.
At the moment, the pool is looking at the possibility of making co-investments. Mr Mansley says: “We have a lot of interest from potential partners, particularly in infrastructure.” The pool is hoping to reduce the costs by working with other investors.
Brunel is talking to other pools about the possibility of working together on infrastructure investments. Mr Mansley says: “We do not, however, see a case for a single, centralised approach to working together on infrastructure.”
While there are undoubted economies of scale within one pool – and even a few pools working together – it is possible to become too big.
Mr Mansley says: “If you have too many assets it becomes harder and harder to deploy the funds.”