The London Pensions Fund Authority is strengthening its in-house investment capabilities in order to reduce investment costs and diversify further into illiquid assets.
The scheme’s latest valuation showed its funding level had risen to 91 per cent at March 31 2013, up from 81 per cent at the same date in 2010.
LPFA's strong returns
The scheme's total return on assets during the three years to March 31 2013 was approximately 8.8 per cent a year.
Around 45 per cent of the LPFA’s assets were in global equities in 2010, and this asset class rose in value by around 30 per cent to 2013, the scheme explained.
“So for the vast majority of the fund’s positive returns, it was global equities that took the lion’s share,” said Martin.
The scheme’s fixed income and absolute return investments added to its positive investment gains.
Martin also attributed its liability management strategy to reducing the deficit.
This means looking at the amount of cash needed to deliver benefits, in order to determine how assets need to move.
The scheme’s longevity risk has not increased significantly because it had good member data, Martin said.
The scheme took its £178m interest rate hedge off at the beginning of last year. It also looked at its inflation rate hedge, which covers 26 per cent of the fund.
“We’ve said actually [drop] this interest rate hedge and let’s start with this inflation rate hedge,” said Martin.
Susan Martin, chief executive of the LPFA, said the scheme would continue to strengthen its in-house expertise following its latest valuation.
“That goes back to the whole thing we’re trying to do at LPFA,” said Martin. “For the last few years we have been investing in having our own in-house capabilities for investments.”
The LPFA set up its internal investment team and appointed its first investment director in 2007. Since then the scheme has been building up the team's capability and capacity, Martin said.
Targeting illiquids
“You can’t really do illiquids unless you have those in-house capabilities because the fees are too high,” said Martin.
The fee structure for investing in these assets is much more beneficial because you can do co-investments and subinvestments, she added.
Simeon Willis, partner at consultancy KPMG, said: “Larger schemes have to have a much better understanding of their liquidity requirements and have therefore... been able to invest in illiquid assets that still fit in with their strategy.”
However smaller schemes can access illiquid assets through products such as diversified growth funds, he added.
"There’s always scope for bigger schemes to do it more historically because they have got more internal resources, investment specialists and expertise, and a team who can do due diligence in this,” said Mark Nicoll, partner at consultancy LCP.
Illiquid assets have a really useful time span for a pension fund, said Martin. “We’ve got people now in our pension scheme and we’ll be paying their pensions for the next century,” said Martin.
This is because assets such as infrastructure will pay out with certainty for a specific number of years. Nicoll said: “What we tend to recommend is they invest in what we call indirect infrastructure or listed vehicles."
By investing in the secondary market, schemes can gain an income without having to wait three or four years, he added.
LPFA has a portfolio benchmark allocation of 55 per cent towards liquid assets, 30 per cent in illiquid assets and the remainder in a total return strategy.
However, the scheme would not be against increasing its investment in illiquid assets to 35 or 40 per cent of assets if the right deal came along, Martin added.
The scheme is looking at investing further in commercial property, the private rental sector and private equity.
Boosting its in-house investment capabilities could also help facilitate a local authority fund 'super-pool'¹, a shared investment platform that could be used to reduce the LGPS deficit, Martin said. It is proposing pooled funds of around £20bn-£40bn.
“That can then do lots of investment in-house and different types of investments in different types of asset class, and can really start to shape the environment,” said Martin.
¹The original version of this article incorrectly stated that the LPFA currently has a 'super pool' investment platform, when in fact it is proposing the creation of such platforms. This has been corrected.
