Newly appointed chancellor Rachel Reeves started off the week by promising a “big bang” on growth through pensions investment. What could this mean for the LGPS?
While the LGPS did not get specific mention in last week’s Kings Speech, Reeves reiterated that she intended to take action to “unleash to full investment might” of the scheme. In practice, this means that the new government is considering to mandate pooling if insufficient progress has been made to meet the March 2025 pooling deadline set by her predecessor Jeremy Hunt.
Moreover, Reeves also pledged to “cut down on fragmentation and waste” within the LGPS highlighting that the scheme spends around £2bn a year on costs split across the 87 funds while fees had increased by 70% since 2017, the new chancellor criticised.
Intent on putting words into action, Reeves hosted a roundtable with senior pensions and insurance industry representatives including LPPI CEO Chris Rule, Border to Coast CEO Rachel Elwell and Jo Donnelly, head of pensions at the Local Government Association.
Her initiative was at first glance broadly welcomed by industry representatives who were all keen to stress that their respective funds and pools are ready to meet the challenges. After all, her plans though ambitious are not vastly different from those of her predecessor Jeremy Hunt who was also keen to push for progress on pooling with the view of each fund.
Reflecting on her meeting with the chancellor, Joanne Donnelly board secretary at the LGPS Scheme Advisory Board said that it was likely there would be “a good deal of continuity here with the previous government’s Mansion House agenda, which was also looking for funds to invest more in UK productive finance. This government seems to have a more “interventionist” agenda for growth, so they may try to actively create more opportunities for LGPS funds to invest in” she predicted.
Progress on pooling – mandation ahead?
Reeve’s meeting with pension leaders was followed by a stream of public endorsements as pools were quick to emphasise their support for her agenda. But the March 2025 pooling deadline remains the Elephant in the room. In May, outgoing Local Government Minister Simon Hoare sent a letter to all administering authorities requesting them to provide him with an update on their pooling progress by mid-July.
While not all funds might have heeded his request, it is to be expected that many funds will now have responded. This means that the new Local Government Minister and the Chancellor should now have a much clearer idea on the progress of pooling. Even with those exact figures not yet available, many in the industry have expressed concern that not all pools will be able to meet the March 2025 deadline. This in turn raises the question how likely it is that we may see the government taking steps to mandate LGPS pooling of assets.
James Goudie, head of chambers at law firm 11KBW warns that the fact that the LGPS has not been included in the King’s Speech does not mean that there won’t be any changes to pooling, on the contrary, the LGPS should brace itself for legal changes.
“I have seen our new Chancellor’s statement and it seems to be very clear that what she is proposing is proposing is primary legislation. We haven’t yet seen a bill on it being published so we don’t know precisely what it says”.
Industry representatives are now keen to shape the precise wording of that new legislation which could have a crucial impact on how the LGPS will operate going forward.
“One can of course lobby from a policy standpoint in relation to this legislation but ultimately, if a sovereign parliament enacts primary legislation, it comes into force and the avenues upon which one can challenge primary legislation are very limited” Goudie adds.
A great deal will now depend on how detailed the primary legislation is, he predicts. “One will have to look at the detail and to what extent it gives powers to the Secretary of State to make regulation or give directions on pooling. If the nitty gritty is not going to be in the primary legislation itself, one may have grounds for challenging the subordinate legislation and any administrative steps by central government but not on the basis of arguments against the primary legislation” he stresses.
Donnelly welcomed that the government was providing clarity on pooling deadlines but warned of potential unintended side effects: “We will want to talk to officials about how the “comply or explain” regime will work, as that is important in not pressurising funds to make adverse decisions just to comply with the deadline.” Instead of a rush to merge assets, a greater focus on governance could be more desirable, she argued.
She also warns that the process of potential fund consolidation should be well thought out: “Merging funds is not straightforward and would not in itself necessarily improve outcomes or reduce costs. Decisions need to be made after careful analysis of the costs and benefits, and it’s important that informed voices are heard during the review” she stresses.
The cost paradox
A key priority for the new government will be to bring down costs, as Reeve’s statement suggests. Indeed, despite the launch of pooling in 2015, investment management expenses for the LGPS have risen from £1,1bn in the year 2018/ 2019 to £1,7bn in 2022/2023, according to the latest SF3 data released by DHLUC. This trend appears to somewhat contradict the government’s assumption that pooling leads to cost savings.
There are, however, multiple explanations for the rise in costs argues William Bourne, independent advisor to the LGPS. One of these, paradoxically, could be the fact that pooling has led to better reporting standards and greater transparency. Another reason could be greater exposure to assets that come with higher investment management fees. Another factor could be overall higher costs of governance. This may be in part because of the pooling process itself though further requirements on climate change reporting and other pension board reporting rules could have also added to it Bourne suspects.
The LGPS Scheme Advisory Board also acknowledges that greater allocations to private markets has contributed to higher fees. For example, in 2018, the LGPS had on average 2.6% invested in private equity, this has increased to 6% in 2023 according to LGPS Scheme Advisory Board Data. But Donnelly cautions against solely focussing on fees: “Costs are not a bad thing in themselves, but as they are a growing proportion of return, it is increasingly important that they are well managed and understood.”
Yes higher fees that come with private market investments could potentially offset higher returns. The scale of interest in Reeve’s agenda suggests that pension funds are nevertheless willing to consider greater allocations to private markets.
Goudie expresses concern that the government’s push for investments in the UK might leave pension funds with less diversified portfolios and lower returns than a globally diversified portfolio. He warned that if targeted allocations to UK assets were authorised by primary legislation, it would become very hard for pension funds to challenge these.
There is, however, a sense that the government is tackling its appeal for pension cash “the wrong way around” as Anne Sander, a professional trustee at Zedra Group and director of Aviva’s Staff pension fund argues. “Pension funds already aim to invest in good growth opportunities. The government needs to be creating a business environment where profitable growth is possible. The investing by pension funds will then naturally follow” she predicts.
This is echoed by Donnelly: “The job of a pension fund isn’t to create opportunities but to recognise them, and we know that many funds would be willing to invest more in UK projects as long as the financials stack up.”