Why Government must investigate council pension fund fees
The scandal of UK councils’ pension funds and their sky-high investment management charges is even greater than previously imagined, and now surely warrants a Government investigation.
While the Centre for Policy Studies reported that the 89 local government funds in England and Wales paid out £10 billion in management fees over the past decade, I can reveal the true figure for the entire UK must have been far higher.
Based on research into local government pension fund accounts for the entire UK, taking in Scotland and Northern Ireland as well as England and Wales and including the Transport for London fund, fees for 2015-16 alone were £1.015 billion!…..and that’s just for a single year.
So over a ten-year period, the £10 billion estimate is certainly on the low side.
This wouldn’t be so bad if investment managers were adding value. Unfortunately, the funds have generated very poor returns for their members, despite thousands of millions of pounds being handed to city-based ‘experts’.
The West Midlands Local Government Pension Fund (WMPF), into which Birmingham City Council is being asked to pay about £125 million a year, is diverting a higher proportion of its assets to managers than the UK average.
The average spent on administration expenses by all UK funds during 2015-16 was 0.36 per cent. But WMPF managed to spend 0.60 per cent of its assets on advisers and managers.
WMPF trustees signed off £86.3 million in 2014-15 on management fees and were set to pay £74.9 million in 2015-16. Payments at this level are, I believe, unacceptable, particularly given the poor return for the fund.
I am arguing strongly for management of the fund to be brought in-house to save money, and I also want to see a full breakdown of fees paid to investment managers, including bonus payments.
One local government pension fund does stand out as a beacon of frugality and good performance – West Yorkshire, which spent just 0.03 per cent of assets on management charges in 2015-16.
WMPF paid at least £1 billion on management fees over the past decade. By contrast, the West Yorkshire Pension Fund’s management expenses over the same period were £70 million. A billion pounds versus seventy million pounds, it just doesn’t make sense.
As the Centre for Policy Studies report candidly notes, dysfunctional governance and a lack of accountability means that local government pension fund members, past and present, are getting a bad deal, while councils are being short-changed because have to bail out the funds with money they would far rather use to run public services.
The blunt truth is that most of the funds would have delivered a better return simply by switching from active management to passive tracker funds, cutting management fees to the bare minimum.
As the Financial Times has reported, passive funds across the world grew 4.5 times faster than active funds in 2016 as investors retreated from stock-pickers due to concerns about high fees and disappointing performance.
But this is about far more than tackling eye-wateringly high management fees, as important as that issue undoubtedly is. With £214 billion wrapped up in local government pension schemes, the time is right for the Government to consider ways in which cash locked up in the funds can be converted to provide investment at a time when local authorities are suffering severe and continuing cuts in Government grant.
We need to think smarter and be more agile about how best to put that money to better use, paying for new infrastructure, housing and regeneration schemes, providing real benefits for communities and delivering better returns for the pension funds.
The Government should welcome such an approach since it would bring into play more than £200 billion, triggering a huge cash injection for homes, jobs and inclusive economic growth.
Many of the recommendations in the CPS study reflect those put forward in my book published three years ago, ‘The Secret Wealth Garden – Re-wiring Local Government Pension Funds back into Regional Economies’.
I argued for the 89 separate ‘mini wealth pots’ to be combined, either into a single national pot or a small number of regional funds. Either way, what’s needed is to make pension fund money work for local communities, which must be the right approach given that these significant pots of wealth are actually made up of the savings of pretty ordinary and low-paid people.
Out of the 15 proposals in the CPS study, the final one is perhaps the most significant:
“The Government should develop a parallel plan to de-fund the Local Government Pension Scheme and use the assets to seed a sovereign wealth fund, with a significant allocation to infrastructure. As a quid pro quo, a Crown guarantee could be provided on the pension promises, which would subsequently be met on a pay-as-you-go basis.”
This would change the historic approach of pension fund management, and do away with an iniquitous valuation system which in an era of low gilt prices and low inflation serves only to produce huge illusory deficits in funds that are actually healthy and wealthy.
And the second CPS recommendation can only be welcomed as an opportunity to claw back some of the many millions of pounds wasted on management fees: “Such is the scale of some individual funds’ unreported costs that DCLG, as scheme sponsor, should discipline the funds’ internal audit functions and consider suing their external auditors, not least to recover fees paid.”
Section 36(3) of the Pensions Act 1995, requiring trustees to take advice prior to making an investment, should be repealed since in its present form it steers trustees down the path of hiring expensive investment analysts in order to prove that they have taken advice, even if that advice turns out to be no more advantageous than placing pension cash in tracker funds.
In short, the time is ripe for a long overdue debate about the future of local government pension schemes. It is a debate the Government must have, and act upon.