Interview – Royal Mail Pension Plan


INTERVIEW – IAN MCKNIGHT


“To be concerned about insurance pricing is quite a luxurious position to be in.”


Ian McKnight, long standing chief investment officer of the Royal Mail Pension Plan, tells Mona Dohle how he manages assets that are nearly six times larger than the sponsor’s market cap, the perks of CDC and why it could pay to be a postie.


The Royal Mail Pension Plan is divided into three: Post Office, Royal Mail and Defined Benefit Cash Balance Scheme. Why the need for such a structure? The Royal Mail Pension Plan looks after the old Royal Mail’s defined benefit (DB) scheme, also called the 2012 section, and the Defined Benefit Cash Balance Scheme (DBCBS), which was launched in 2018 when the old DB scheme closed to future accrual. In addition, we oversee the legacy Post Office section, which is still part of the Royal Mail Pension Plan, albeit a sep- arate section [Post Office is owned by the government, whereas Royal Mail is pub- licly listed].


The DB and DBCBS sections are legally the same plan but are notionally divided in liability and asset terms. There is no blurring here, but there are benefits to being in the same legal “pot”, not least via economies of scale. That is why we have a structure that might seem strange at first sight.


Your scheme stands out for another rea- son. Not only have you been in surplus for eight years, but your assets have grown by £1bn in the past 12 months. How did you


weather the first storm of the pandemic so well?


A large part of it was due to the early in- troduction of interest rate and inflation hedging strategies as well as the strong performance of our return seeking portfo- lio. Given that, in essence, we are hedging the majority of the interest rate and infla- tion exposure imparted by its (very long dated) liabilities, if you imagine it as a split between return seeking and liability matching, the matching bit of the portfo- lio was geared [using swaps and gilt repo] to hedge the value of the return seeking exposure as well. That swap effectively means that instead of having a gilts benchmark, the return- seeking assets need to outperform cash plus a margin to improve the plan’s fund- ing position. So, instead of the return seeking bit trying to beat the liabilities, like the gilt-plus benchmark many pen- sion schemes use, it needs to beat cash be- cause you swapped your linkers into cash. If you generate positive returns above the cash [liabilities and discount rate] you will increase and improve your funding level. And that’s what happened. On our return seeking assets, we had an investment


20 | portfolio institutional December–January 2021 | issue 99


return target over the period of cash-plus around 3.5% [this varied over the period]. When the return-seeking assets were at their largest, we were achieving double that but with pretty much half the risk. As we de-risked significantly during 2019, this “good news” was locked down to a meaningful degree.


That is just on the return seeking side of our portfolio. In an absolute sense, the to- tal plan delivered 13% per annum, because of the hedge doing 16% pa. Combined, these contributions resulted in the asset growth and strong funding position you are referring to.


You would not get that kind of return from a lot of hedge funds. Yes, it sounds like the best hedge fund in the world, but I can assure you it isn’t run like a hedge fund. The plan is managed in a tight risk-controlled way. For the return seeking assets, volatility was 2.8%, which is low for a “risk” portfolio. We also outper- formed equities, if you consider that listed equities are typically modelled at 18%, this shows how low risk the plan’s portfolio is. The Sharpe ratio – the return over cash per unit of risk – was 3 for a while.


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