The UK’s leading non-governmental DB pension scheme investor in private markets talks to PMP about building its exposures over almost twenty years
The Universities Superannuation Scheme (USS) has been allocating to private markets for almost two decades, starting in a nascent market with a small pot of capital to become one of the sector’s most significant investors. “It has been an incredible journey,” says Ben Levenstein, head of private markets at USS.
USS is one of the few UK defined benefit (DB) pension schemes open to new members and future accrual and is the biggest non-governmental scheme.
USS’s portfolio has grown to c.£75 billion in total AuM, as of 31 March, with c.£26 billion in private markets managed by its internal Private markets Group (PMG). It allocates across four asset classes: private equity (PE) and co-investment (£5.1 billion); direct private equity, mainly in infrastructure (£7.9 billion); private credit and alternative income (£7.8 billion); and property (£5.3 billion). It has a team of almost 80 people investing and managing assets in specific mandates across these four areas.
Approximately 70% is directly invested – where the team originate, execute, manage and exit investments themselves – with the remainder managed externally. “We operate like a GP, but the important thing is we only manage money for one client – USS – which serves a sector with long term objectives – UK universities,” says Levenstein, who joined USS PMG in 2013. “The services we provide are across all of Private Markets which at present is a different makeup to almost all our UK peers.”
It allocates to multiple different types of deals and opportunities. There is flexibility to invest up to 100% ownership of assets while other investments involve a significant degree of partnering. “The flexibility in our private markets structure and set-up is a competitive advantage across almost every sub-asset-class and allows us to access a wide range of investments, maximising USS’s risk-adjusted returns,” he says.
Four pillars
USS PMG’s PE and co-investment strategy is perhaps its most straightforward, allocating capital to established GPs. “We have effectively created our own secondaries fund in LP positions designed for USS’s requirements. It’s our longest-standing mandate, going back almost 20 years. We run a concentrated portfolio allowing the team to develop deep relationships with GPs,” says Levenstein.
“We select GPs that we believe will provide the most consistent risk-adjusted performance. We also like GPs that recognise the potential and scope for significant partnerships, so we can do partner transactions and co-investments with them.”
Its direct private equity allocation targets long-duration, inflation-linked, stable cash flows. “That manifests in us being a significant investor in infrastructure and infrastructure-like assets. The portfolio is relatively concentrated geographically and allocates across OECD nations. We’re c.45% UK-weighted but also have significant business interests in Spain, the US and Australia,” he says, noting exposures across airports, transportation, renewable energy, gas transport and conventional infrastructure.
An array of different partnership structures is used, from full control to significant minority shareholding deals. “This makes sure we have the right expertise within the shareholder group to manage the businesses. And, with a number of the assets being large, it also allows for appropriate portfolio diversification,” he says.
USS PMG manages private credit in three pots. It started a liability-matching pot almost 10 years ago, where it invests in very long-duration credit and debt-like structures. “The assets have very strong correlation to our very long-term liabilities, and a risk profile that is very stable, high-quality, investment grade (IG) while producing premium rates of return. Sector exposure spans traditional infrastructure lending to social housing, long-dated property and renewables lending,” he says.
It also has a short-duration credit book, including shorter-term renewables lending, asset-backed finance and fund financing. “It has been a very successful strategy for us especially as interest rates have increased. It’s all IG credit and has good diversification, courtesy of the security pools that are lent against,” he says.
The final credit pot is sub-IG, which is predominantly invested in funds. “We decided 10 years ago not to replicate what many top tier managers already had in place, so we are an LP in this space,” he adds.
We like GPs that recognise the potential and scope for significant partnerships, so we can do partner transactions and co-investments with them.
Ben Levenstein, USS
Its property allocation is dominated by a c.80% allocation to the UK, made up pf c.120 assets. It invests across the traditional sectors of retail, industrial and office space as well as a significant weighting to alternative areas including student housing, residential housing and primary health care assets. The remainder is in its international portfolio, invested through third-party managers.
Most of its property assets are wholly owned. “When we invest on a wholly owned basis, we own, manage and eventually sell assets ourselves,” he says.
USS PMG started in private markets by investing in funds. Through these, it later became a pioneer in European co-investment back in 2015. “Then, through co-investment, we came across assets that we believed were well suited to USS’s requirements – often long-term in nature and inflation linked, providing a good correlation to our liabilities – so we embarked on a direct investment programme,” says Levenstein.
Over the years, USS as a pension scheme has matured, and its asset allocation has changed. “We wanted more fixed-income-type products to help hedge our liabilities and we felt strongly that private markets would be able to provide interesting investments for the scheme,” he says.
It started its private credit business about 11 years ago, which back then was unusual. “We decided to build an IG private credit business internally, which was perhaps ahead of its time. Now just about every manager is looking to build one,” says Levenstein.
University challenge
As the universities’ scheme, USS has many connections to academia. The main area where it collaborates withuniversities is on research, innovation and thought leadership. It worked with University of Exeter and University of Cambridge on climate scenario analysis and other scheme issues. Its most recent TCFD report in July used this work to create dedicated climate scenarios and this thinking has been of help when thinking about each private market asset class.
Levenstein agrees with the findings of a recent BVCA report that highlighted the need for UK capital beyond the earliest venture financing stage of university spin-out companies. “We regularly look at the UK venture space,” he says. “We haven’t yet invested but continue to monitor it closely. The UK scale-up space is an area that requires new thinking and new capital.”
Levenstein says it is “very important” to USS’s model that it serves just one client. “This doesn’t preclude us from collaborating with like-minded investors, but we don’t manage money for other schemes.”
USS PMG is a co-shareholder or co-noteholder with pension funds and insurers, both domestic and international, in many investments. “We’ve got a strong track record partnering on appropriate assets, bringing in like-minded sources of capital,” he says.
Its approach to asset allocation and private markets was formed over a long period. “Some time ago, we decided to select from the widest pool of assets. Subject to overall illiquidity tolerance, we are indifferent to public or private assets. There’s very regular reassessment of our buckets to ensure alignment with what USS is trying to achieve.”
The capital to invest is there, it just needs the right projects, structures, and risk-adjusted returns. Given time, these factors can all be satisfied.
Ben Levenstein, USS
The UK needs “consistent and persistent investment” in its infrastructure, says Levenstein, so upcoming government projects could be a good fit. “The country needs stable, strong infrastructure across utilities, energy, transport and the NHS among other areas – so constant capital is required to maintain these assets to a suitable level,” he says. “For example, this year we invested in what will be Europe’s biggest data centre campus in Blythe, north of Newcastle.”
The government can play an “incredibly helpful” role in pulling projects together, he says. “Politicians and civil servants speak a different language to investors – so bridging the gap as well as improving speed, efficiency and execution would aid investment into the UK.”
“We are encouraged by the government’s activity but would encourage them to do more. The capital to invest is there, it just needs the right projects, structures, and risk-adjusted returns. Given time, these factors can all be satisfied.”
Levenstein acknowledges that such projects entail a degree of political risk. “Political and reputational risks are key to all investments, particularly ones involving society and living standards. We get advice on every transaction in our diligence. Once we own assets and control them, these risks are key considerations for the boards of our businesses.”
USS has a long-standing commitment to responsible investing. “We strongly believe it’s good business,” says Levenstein. “For USS, sustainability is important and it entails a wider set of factors such as having diverse boardroom skillsets, productive and engaged workforces and strong health and safety processes. We have responsible investment targets across every single direct asset and monitor them very closely. For example, we spent the last few years improving carbon data collection and our assets are now almost 100% covered, which is quite a feat.”
PMG has specific plans to decarbonise each asset over an appropriate number of years. “Our guiding principle is to target appropriate risk-adjusted financial returns – and we believe responsible investment and sustainability go directly to long term financial returns,” says Levenstein.“Carbon heavy assets must have a route to decarbonise. We need to play our part in effecting change, not just divesting our way to change.”
Looking ahead
Levenstein says “it’s a very exciting time for UK private markets” for PMG, due to multiple factors. The last two years have been difficult for many PE managers, partly due to higher interest rates, resulting in very low distributions. “There are lots of GPs that want liquidity or want to raise their next fund,” he says. “That puts us in a stronger position to negotiate. We’re seeing significant opportunities across all our businesses.”
The entrance of DC master trusts into private markets is adding competition for assets – but USS is also involved on this side and a signatory to the Mansion House Accord. “We now have an almost fully-fledged private markets offering within DC, including a 25% allocation in our default fund. We run lots of assets across both DB and DC.
“Other DC entrants are at the start their journey and it will be great for us to invest with like-minded investors. We’ve got a lot of experience to share so it’s good to have them around the table. They will be significant players over time.”
Levenstein expects the push by some big private markets managers into retail and high net worth channels to accelerate over the next decade. “My intuition is this will lead to a big change in the nature and liquidity of the product set,” he says. “It will have to be more liquid, which is going to lead to some interesting structures and discussions with GPs.”
Levenstein is unconcerned about the impact of new capital on the premiums available in private markets. “Premiums are prevalent and very observable across the credit spectrum, but vary over time,” he says.“It’s been coming down over the past 20 years, but there will be an enduring premium. Very large PE and infra transactions are complex by nature so will retain their excess returns – the market is just less competitive as very few players can enter.”
Fund facts
- Total AuM: £75 billion
- Private markets allocation: c.33% (£26 billion)
- First allocation: 2006
- Capabilities: Internal team of 80 private markets specialists and external fund managers
- Current private markets: Private equity and co-investment, direct private equity (mainly private markets) private credit, and property
- Target allocation: Stable