David Vickers, Brunel Pension Partnership’s chief investment officer, talks to Mike Thatcher about infrastructure investment, levelling up and the future for LGPS pooling.
What is the future of the Local Government Pension Scheme (LGPS) pooling system? This is a question that has been asked for months, if not years, as we await the government’s long-promised review of a structure that currently comprises eight pools with around £300bn of assets.
Ministers are said to be “impatient” about the progress made on transitioning assets to the pools, while believing that LGPS pension funds could do more to support UK-based infrastructure projects. There are hints that rationalisation of the pools could be on the agenda, that pooling of assets could be made mandatory or even that individual LGPS funds could be members of different pools for different purposes.
But government turmoil – with three levelling up secretaries in the past four months – has led to delays to the publication of the review and a lack of clarity on future direction.
An early indication of the government’s intent could be seen, however, from the levelling up white paper, published in February 2022. This called for LGPS funds to allocate 5% of assets to infrastructure projects that support “local areas” (later clarified to mean UK-based) with the aim of unlocking £16bn of new investment.
So how could pension funds be used to support UK infrastructure projects more effectively and what impact would pool rationalisation have? Room151 talked to David Vickers, chief investment officer of the Brunel Pension Partnership, to get a view from the frontline.
MT: Do you think that with Michael Gove returning as levelling up secretary there will be more emphasis on using the pools to invest in UK infrastructure?
DV: Potentially. I would imagine [the LGPS] looks like a prize, an untapped resource of capital. We have spoken to the government and said if you want more money in infrastructure, then invite us to the table. We wrote to [former minister for investment] Lord Grimstone, and to Boris Johnson [when he was prime minister], and I’ve had meetings with the Office for Investment, saying “show me the deals you have, and then I can show you our commitment”. But I can’t commit a number to an unknown project.
At COP26, the government invited international investors, but not the UK investors. They either want us at the table or they don’t, but we need firm projects that we can invest in, that meet our fiduciary responsibility. We can’t invest in opportunities that are subpar just because they are government-derived.
MT: The levelling up white paper called for LGPS funds to invest 5% of their assets in local infrastructure projects. Is that happening?
DV: It doesn’t feel like it. But most of our clients, in the aggregate, probably already have about 5% in infrastructure. Not all in the UK, lots of it is global, but there are place-based investing schemes such as the £115m investment in affordable housing by Cornwall Pension Fund – the first multi-asset, place-based impact fund across the LGPS pools.
Everything in your portfolio has to compete for attention. If UK infrastructure is a lower-returning investment than global infrastructure, how does that work? I have to choose the best available risk-return opportunities that exist within that particular asset allocation. You also get more diversification in global and different opportunities.
Twenty years ago everyone invested only in UK equity markets and gradually moved to global. They’ve won on the back of that because, not only have you had Amazon, Apple and Google, you’ve had the currency depreciation. I am not saying that will happen again, but diversification is the key to lots of things.
MT: What would be the optimum size for each LGPS pool?
DV: We have conducted studies looking at successful asset owners elsewhere, and somewhere around £100bn is an optimal amount of money. So you could imagine policymakers trying to push the eight pools down to four or three.
We looked at sovereign wealth funds in Canada, Australia and Norway, employing an independent consultancy to examine the optimal amount of money, because economies of scale stop at a certain point. If I have $200bn to negotiate with, rather than $100bn, I don’t get a better deal. If I have $100bn rather than $10bn, I do get a better deal. So there is the optimal point in the curve where efficiency gains and economies of scale start to lessen. You don’t really want to go past that.
It’s an open question, but it does strike me that probably eight would be a funny number to stop at and another government has its own incentivisation for a bigger pool that they could arguably control – with local levelling up and infrastructure. They see perhaps the prize of a sovereign wealth fund, which would act differently to how the pools currently act.
MT: What do you think of the suggestion that an individual LGPS fund could be a member of a different pool for different purposes?
DV: Each pool has a different governance structure agreed corporately by its clients. That makes it hard to invest in other pools’ portfolios without accepting different governance rules. Moreover, the bill for creating any portfolio has already been footed by the clients invested in it. So appropriate price would have to be agreed for the service in recognition of those costs.
Perhaps it would make more sense for a pool to take on money that the other pools aren’t providing or can’t provide or don’t want to provide, or it’s uneconomic for them to provide. That might make sense. But, again, you’d have to overcome the governance issues. There are lots of sunk costs in the pools, and our clients have borne those costs, so to have a free ride might be difficult.
MT: You have transitioned 80% of the assets from individual funds to the Brunel pool. Can you go further?
DV: Maths would tell you that you may as well get to 100%. However, most of the low-hanging fruit [has been taken]. Some of the funds already have private market programmes that will be invested for the next nine to ten years. And there are some clients that have a manager that only they have, or an asset class that only they have. What is the point in us replicating what they already have?
Pooling was established for the economies of scale amongst other things. If it’s one client who only has a small holding, I probably couldn’t replicate that any cheaper. So why transition and create costs?
MT: So when the government does publish its long-awaited response on the future of pooling, what do you want to see?
DV: Clarity. The previous reviews we’ve had historically have stopped short of mandating certain things, whether in renewables or infrastructure or anything else. And so it should be either: mandate or don’t mandate. There should be no halfway measures.
