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The prospect of Rachel Reeves forcing pension funds to back British stocks is being discussed as a more serious possibility, writes Charlie Conchie
As the City grandees Nicholas Lyons and Peter Harrison gathered a room of executives for a workshop at the London Stock Exchange last month, a familiar gripe was on the agenda.
The two bosses – chair of Phoenix Group and the outgoing chief executive of Schroders, respectively – were once again puzzling over how to get billions of pounds of pension money flowing into the UK’s markets as part of the Capital Markets Industry Taskforce’s (CMIT) annual summit.
That morning, the pensions minister, Emma Reynolds, had said her top priority was unlocking investment from the pensions system. Think tank boss William Wright laid out the stark slide in retirement cash flowing into London over the past two decades. Pension advisers lamented the sector’s risk aversion and allergy to equities.
Countless conference minutes have been eaten up over the past two years by the question of how to unlock the UK’s pension cash and revive the beleaguered bourse where Lyons and Harrison were now holding court.
But this time round, a new and previously taboo word had loomed into view. ‘Mandation’ – where pension money managers would be forced to allocate a portion of their assets to British companies – was suddenly being debated as a realistic and palatable prospect, according to several people in the room.
In a show of hands, a sizeable section of delegates rallied behind the idea of forcing pension money managers to back Britain. Roughly a third of people raised their hand in support, one executive reckoned.
“If you’d have asked that question a year ago, you would have been laughed out of the building” said one person.
“The Overton Window seems to have shifted,” said another attendee.
‘We’ll turn our attention to the pension system’
The Chancellor Rachel Reeves has been clear that unleashing a wave of retirement cash will be a central pillar of her economic agenda since her taking power in July. In her maiden speech in the atrium of the Treasury, days after moving into Downing Street, she pledged to turn the government’s “attention” to the pensions system and “drive investment in homegrown businesses and deliver greater returns to pension savers.”
A new cross-department brief has been carved out for Reynolds as pension minister which sits across both the Treasury and its traditional home in the Department for Work and Pensions, in a signal of the seriousness with which the government is treating the issue.
The scale of the challenge is clear. In a new report commissioned by CMIT, the think tank New Financial found that the proportion of assets that UK pension funds allocate to UK stocks has fallen to 4.4 per cent, down from over half of their assets 25 years ago.
This puts the UK among the lowest of any developed pension system around the world, with only Canada, the Netherlands, and Norway having a lower allocation, the report found. Around four per cent of the London-listed shares are now held by pension funds, a sharp drop-off from the 39 per cent held at the turn of the millennium.
However, while the problem is clear, the levers the Treasury can pull to solve it are is less so.
Reeves and Reynolds kicked off a pensions investment review in early September designed to identify and break down the barriers blocking pension money from flowing into homegrown companies and infrastructure projects.
The questions it has posed to the industry are broad: how to consolidate sprawling funds into bigger pools of cash akin to Canada and Australia’s behemoth superannuation vehicles; how to remedy pension trustees’ preoccupation with fees – which has typically shut out areas asset classes like venture capital and private equity; and what are the fundamental obstacles are to unlocking a wave of investment into British stocks.
Some of those questions point to what is seen by many in the City as an extreme culture of risk aversion and focus on costs that has infected the minds of trustees and employers around the country.
Speaking to City AM after appearing at CMIT’s annual conference, Tess Page, head of UK wealth strategy at Mercer, said when employers are looking at potentially choosing a master trust to run their corporate pension scheme, they’re often just choosing the cheapest option on the table.
Investing in UK equities, which brings with it charges like the punitive stamp duty on UK shares, therefore immediately puts them at a disadvantage to schemes heavy on bonds and international stocks.
“Employers are the ones who select the master trust. And the people selecting them are not generally investment professionals. They are HR teams,” she said. “The only thing they can really get their head around is: how much does it cost? Therefore, it’s being bought on price.”
Educating those people on the value of equities and a wider range of asset classes could be an option, she added.
Another she points to is simply scrapping the “disincentives” to investing in the UK like the stamp duty on shares or a tax on dividends – an option favoured by many in the City.
“We’re very open to incentives like or at least removing the disincentives,” Page added. “Pension schemes get taxed on UK equities. In Australia, they don’t have that. So in the Australian market, it’s basically tax free for pension funds to invest in the domestic market.”
Mike Coombes, vice president of corporate affairs at the London Stock Exchanged-backed retail investment firm PrimaryBid, said using tax tweaks to implement a “home bias” similar to Australia had moved from a “fringe position to the likely outcome”.
Australian pensions have an unusually high allocation to domestic equities: nearly a quarter of their assets, half their equities allocation, and a home bias of 29 times, largely driven by fiscal incentives.
According to New Financial’s report, the Australians come near the top of the pack in terms of getting pension capital into the market – good enough for Jeremy Hunt to even begrudgingly tip his hat at last year’s Global Investment Summit.
It’s “very, very painful … for any Brit to have to point to something the Aussies do better”, he told Deanne Stewart, the boss of one of Australia’s biggest pension funds.
But in what is expected to be a tax-raiding budget at the end of October, the prospect of Rachel Reeves cutting a levy on share trading and dividends is seen as a fairly slim possibility.
This may therefore bring into play a more heavy handed approach from the Treasury. And it is one that Reeves has entertained before.
Speaking on a trip to New York as shadow Chancellor, she said “nothing was off the table” when asked whether she could force pension funds to back a mooted growth fund, which has since been sidelined.
City AM has learned that Treasury officials have also been quizzing City bosses to gauge their mood on mandatory investment in British companies.
“We understand Treasury is looking at all options for pension scheme investment – including mandation – and has been doing some temperature checking with the City as to appetite,” one senior City source said, adding that as far as they were aware, “no further action is planned”.
We need to be very deliberate and say either we’re going to mandate or not.
The move would be a drastic one and would undoubtedly trigger accusations of overreach from some quarters. As those in the pension industry point out, they have a fiduciary duty to their members rather than a patriotic one to the stock market.
Speaking just before then-Chancellor, Jeremy Hunt, threatened “further action” against pension funds who did not up their allocation to UK equities, Carol Young, chief executive of the £73bn Universities Superannuation Scheme, said she would have “cause for concern” if ministers were to direct trustees as to where funds should be allocated.
The chief investment officer of one master trust poured cold water on the seriousness of the suggestion of mandation last month and said instead the Treasury should be focused on tempting pension funds to invest in areas like infrastructure, alongside the government, on a “deal by deal basis”.
“That is the smart way to structure the whole thing, rather than trying to sort of turn pension funds into a National Wealth Fund, which just seems quite problematic,” the person told City AM.
Another pension boss told City AM last year that “it doesn’t make any sense to try and wind back to some anachronistic 90s situation where all UK pension funds were investing in UK companies.”
The government closed it’s quickfire pension investment review on 25 September and the outcome is yet to be published. It could provide some clarity on the path ahead after years of handwringing and threats toward the pension industry over their lack of domestic investment.
When asked by City AM whether mandatory investment was under consideration by the Treasury, a Treasury spokesperson suggested that all options were still on the table.
“We want to unlock more investment to help grow the UK economy and deliver better returns for savers,” the person said. “The pension review is looking at ways to achieve this in an effective way by working closely with the pensions industry.”
A senior source in the room at the session run by Harrison and Lyons in September said he got the view that the industry might like the decision taken out of their hands.
That morning, Harrison himself was more blunt.
“I know mandation is really unpopular, but what we shouldn’t assume is that we can gently nudge mandation. There’s too many trustees in this country, and governance is too important to this country to think that we can get there by stealth,” he said.
“So we need to be very deliberate and say either we’re going to mandate or not.”
But, he added, “just don’t expect people to be patriotic”.