Feature Smaller players


Investment in illiquid assets generally comes with higher investment


costs. Tim Pike, Pensions Policy Institute


scheme establish a partnership with a private infrastructure investor and GLIL to invest £3bn directly in global core and core-plus projects. The projects Nest are interested in include fibre networks, social housing, water and waste treatment plants and seaports. “Nest’s investment strategy is evolving at pace in line with the growth in our assets under management, opening up new assets classes in the pursuit of the best risk-adjusted returns for our members,” O’Neill says. “We believe direct infrastructure equity investments can offer diversification benefits and a return premium to public market equities, at lower levels of risk.”


Insurer advantage


In addition to the wide range of infrastructure opportunities, Legal & General’s The Power of Pensions report indicates how small pension schemes can get involved by looking to manage their liabilities through the pension risk transfer (PRT) insur- ance market.


The insurance market’s involvement in pensions is well estab- lished: pension liabilities are sold to an insurer, which then pays the pensions.


In reference to the development of PRT, Gavin Smith, head of pricing and execution, pension risk transfer at Legal & General Retirement Institutional, says: “While these [small] schemes may want to invest in infrastructure and ESG-related holdings, the need for diversification and the illiquid, long-term nature of some of these investments can make it harder to incorporate them into their portfolios in a cost-effective way. “In addition, typical fund structures have tended to be less accessible to smaller schemes,” Smith adds.


Looking at this in more detail, there are around £1.6trn of defined benefit (DB) pension assets on UK company balance sheets. Most British DB schemes are closed to new members and a large number are small – relatively speaking – with the Pension Protection Fund’s Purple Book 2020 showing that 72% of Britain’s schemes have less than £100m of assets. “Over recent years, we have seen developments on the invest- ment and insurance side to open up this asset class to a wider set of smaller schemes depending on their circumstances,” Smith says. “As funding levels improve, by securing their members’ bene- fits with an insurer through a PRT transaction, smaller pen- sion schemes could also benefit from the fact that the insurer will be invested across a wide pool of infrastructure projects, including those with ESG credentials, which will allow them to offer a lower premium to the scheme,” he adds. This pension money could then be invested in projects that make a real impact around the UK, including affordable homes, roads, new technologies and renewable energy. “In fact, more than £24bn of our UK annuity portfolio is invested in direct investments that deliver a social, economic or environmental application,” Smith says.


Infrastructure improvement


Infrastructure is also an area primed for investor improve- ment. According to the Pensions Policy Institute’s (PPI) DC Future Book, currently around 1% of master trust default funds – where most scheme members reside – are invested in infrastructure. Putting this into perspective, Tim Pike, the PPI’s head of mod- elling, says: “Investment in illiquid assets generally comes with higher investment costs.” Therefore, larger, cash-positive schemes, such as master trusts, are more likely to be able to lock away a proportion of funds in anticipation of a potentially increased future return. “In this environment, costs are driven to a minimum to be able to offer a competitive charging structure and investment related expenses are typically around 15 basis points or lower,” he adds. “For such schemes to invest further in asset classes such as infrastructure, investment approaches need to consider returns and volatility measured net of charges – above the minimisa- tion of headline charges – and for this to be recognised by those selecting schemes for their workplaces.” But for Frith, the infrastructure outlook is positive. “There is a lot of investor appetite at the moment,” he says, although he offers a caveat. “Like anything, all investors should be guided by wise advice on what is suitable for their scheme. “Don’t just follow the herd and get dragged along by the mad- ness of crowds,” he adds.


Dec-Jan 2022 portfolio institutional roundtable: Build Back Better 25


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