Owen Walker finds schemes are being put off investing in infrastructure due to the UK government’s unclear attitude to private finance initiatives (PFI)
A survey carried out by schemeXpert.com and Pensions Week of 44 scheme managers, investment directors and trustees – whose combined control of assets is in excess of £125bn – found appetite for infrastructure and housing investment.
But while the drying up of traditional credit taps has presented opportunities for pension schemes, there is wariness to invest in PFI deals because of the government’s unclear position.
“There is definitely scope to do more, but pension funds need to feel confident future governments won’t change the rules after they get their hands on our money,” said the chief executive of an £8bn scheme. “Talk by the current government about trying to renegotiate the previous administration’s PFI contracts – whether or not you think they were good deals – doesn’t help confidence.”
In recent weeks, health secretary Andrew Lansley has blamed PFI schemes for bringing NHS trusts to the “brink of financial collapse” and questioned the value for money of such deals.
Case study: Greater Manchester’s investment in local infrastructure
The survey’s findings are supported by a recent announcement by the £11bn Greater Manchester Pension Fund (GMPF) to increase the proportion of its investments held locally from 3% to 5%.
A significant part of GMPF’s local investment is in a co-venture 270,000 sq ft office block in Manchester city centre. The scheme is also negotiating a deal to fund social housing projects.
“At the moment our exposure to local investment is primarily derived from property investments,” revealed Peter Morris, director of pensions at the scheme. “In the short term, I envisage property-related investment will continue to be the main source of local investment.
“There are a number of other areas of investment we will evaluate over time to determine whether they are capable of satisfying our twin objectives of commercial returns and supporting the area. I therefore see a diversified portfolio of investments building up over time.”
Redington’s Robert Gardner said one of his clients was another local authority pension scheme which had made a similar increase in its local investment allocation.
“There is going to be a lot of pressure on local authority pension funds to invest in the UK’s economic growth, rather than in asset classes like emerging market equities,” he said. “The way I see this working is if a number of funds pool together to invest across the UK, rather than at a local level.”
In addition, a recent report published by the House of Commons public accounts committee condemned a PFI project that attempted to reorganise the fire service as a £469m failure.
Meanwhile, Mark Hoban, financial secretary to the Treasury, recently addressed a room full of pension scheme investors at the National Association of Pension Funds, attempting to sell the merits of investment in the UK’s infrastructure.
“Your investment in the UK economy can drive economic change and that change should generate more stable and sustainable returns, benefiting Britain’s pensioners,” he said.
He added: “At a time of widespread market anxiety, when returns on most types of investment are extremely volatile and uncertain, investors across the board are looking to derisk and secure long-dated income producing assets.
“Infrastructure investment has the potential to offer those secure, sustainable and strong returns that investors are looking for.”
PFI suitability questioned
While the returns are well suited for schemes with long-term liabilities, the structure of the deals can be off-putting.
“These projects should be great for pension schemes, as the PFI-type initiatives should throw off cashflows like fixed income,” says the group pensions director and investment committee member at an £800m scheme. “However, there is always significant debt in the underlying asset, and this can scare trustees. It can all go wrong if there is any economic sensitivity here, as opposed to pure PFI.”
Pension schemes typically gain access to PFI deals through special purpose vehicles (SPV). The scheme will lend capital to the SPV, and in return receive long-dated, often inflation-linked payments.
A key benefit is the security of being backed by the public sector. Typically there is also the option for the investors to take control of the project or asset in the event of failure or poor performance.
The funding for the project comes from the investor, so the pension scheme bears the risk if it fails to complete on time. The investor also theoretically takes on the inherent risk of the project failing to complete at all.
The majority of the respondents to the survey felt pension schemes – particularly the largest funds – could play a major role in helping finance growth in the wider economy. They also felt the opportunities infrastructure presented to schemes were particularly compelling as a diversifier as well as a match with their long-term liabilities.
“We can play a big part,” said the head of investments at a £1.5bn public sector scheme, “but we need managers to offer the fund structures that meet our interests. We don’t need leveraged private equity returns from infrastructure if it’s sitting on our liability-matching portfolio.”
Figures from the National Audit Office showed there were around £4-5bn of PFI projects signed off a year between 2000 and 2008, with £7bn at the height in 2006. But since 2008 there have been just £1-2bn a year signed off, according to Robert Gardner, co-chief executive and founder of investment consultant Redington.
“We still need new hospitals and schools, so where is the money going to come from? We know it’s not going to come from the government and it is doubtful whether the banks will be willing to lend,” he said.
He added an unleveraged model with less risk needed to be developed to better suit pension schemes with cautious trustees.
