Consolidation is not a silver bullet for UK growth

Pension fund consolidation can lead to better outcomes for savers but is not a silver bullet for driving investment into UK productive finance and should form part of a much broader strategy.

The government’s Pensions Review is exploring how the pension system can support investment in homegrown businesses, particularly in private markets.

When properly structured, a system with fewer, larger pension schemes has the potential to deliver more diverse capital allocation across private and public markets.

Larger schemes are also better positioned to negotiate more favourable costs and charges. As a fund’s assets reach £20bn, it can invest in a wider range of assets, including starting to co-invest in private markets. Above this level it can invest directly and may increasingly use in-house investment teams.

Consolidation already under way

Encouragingly for anyone who wants to see larger pension schemes invest more in UK growth assets, the structure of the market is already changing.

The defined contribution (DC) sector is consolidating rapidly and is expected to continue in this trend unabated.

Today, most DC savers, and the vast majority of DC assets, are managed by around 20 to 30 authorised master trusts and a dozen or so large insurers offering group personal pensions.

Three of the largest master trusts already manage over £25bn in assets each and some have an operational aim to achieve scale of £100bn by 2030.

On its current trajectory, analysis by the Department for Work and Pensions shows the master trust segment of the market is expected to manage £1.5trn by 2035.

Helped by the ongoing transfer of assets from the 86 Local Government Pension Scheme (LGPS) funds in England and Wales to eight pooling organisations, local authority funds have also seen consolidation. They have successfully reduced costs, delivered positive real investment returns, and increased investments in alternatives.

To date, 39% of assets have been transferred from the pension funds to the pools, a further 31% of assets are under pool management and a further 9% are earmarked for transfer shortly.

Annual cost savings of £180m have been delivered. Investment by LGPS funds into alternative asset classes has grown from 7% of investments in 2014 to 20% in 2023.

Pooling has also helped to significantly reduce the costs of investing in more sophisticated asset classes – by around 30% vs a typical institutional investor in private markets. 

Delivering benefits in a variety of ways

A more consolidated market will be positive for domestic growth if more investment flows to UK-domiciled investments. But greater scale on its own will not lead to more inward UK investing.

The UK’s recent period of political and policy uncertainty, which has affected things like government decisions on infrastructure projects and the UK’s approach to climate change, has sometimes made the case for investing in the UK less compelling. Rightly, pensions must ensure investments operate in the interest of scheme members and savers.

The Pensions and Lifetime Savings Association supports continued consolidation and argues the best approach to raising investment in productive assets is to make them more attractive rather than compelling investment in certain sectors.

The UK needs to establish a pipeline of investable assets. The PLSA has provided practical examples of sectors where pension funds could invest to increase UK growth and what steps are needed to achieve this. These measures are set out in our report, Pensions & Growth: Creating a Pipeline of Investable UK Opportunities.

The government should also provide fiscal and investment incentives. Common in many other countries are tax measures to make local markets more attractive for local investors.

We must also have policy certainty and a clear plan for the future of the UK economy. We need a coherent industrial strategy for key tasks like the Green Transition. Addressing long-standing barriers to growth, including reform to the UK’s planning system, is also needed.

There also needs to be careful thought given to the development of investment vehicles, like the National Wealth Fund, so they meet the investment needs of pension funds.

Increasing saver contributions under automatic enrolment, which is likely to be considered in the second stage of the review, will have a much more significant impact on saver outcomes than higher returns resulting from consolidation. It would also help deliver scale in the DC market more quickly.

We support the government in taking measures to achieve greater pension fund scale, where this is in the interest of scheme members, but scale alone will not result in higher investment in the UK.

Nigel Peaple is chief policy counsel at the Pensions and Lifetime Savings Association.