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Friday View: 17 October 2014

Alternatives to fiduciary management: opening up the debate

By Patrick O'Sullivan
Friday 17th October 2014

Fiduciary management is on the rise in the UK after migrating from mainland Europe. As it grows in popularity with UK defined benefit schemes, the benefits and concerns of adopting FM is coming under greater scrutiny.

Fiduciary management can have a role, but this of course depends on the varying and myriad objectives of respective pension schemes. Growing column inches and marketing budgets dedicated to fiduciary management have begun to create a perception, among some trustees, that fiduciary management is a panacea to issues around the outsourcing of investment objectives and governance. However, reality suggests that there is rarely a simple answer to a complex question.

There are a number of concerns around fiduciary conflicts if trustees engage in fiduciary management – both on the issue of cost, investment strategy and governance. At Redington, we have seriously explored entering fiduciary management, however, we have opted to remain fully independent and conflict-free despite fiduciary’s potential transformation for our business. It is time to open this debate not just on the merits of fiduciary management, but on the full spectrum of options available to trustees and scheme sponsors which includes the traditional advisory model. It should not be simply a question of whether to take the fiduciary route or not, for there is no “optimal” level of outsourcing that can be uniformly applied to all pension schemes.

Fiduciary management cannot work without fully considering liabilities, keeping in mind that the ultimate purpose of setting an investment and risk management strategy is to ensure that, firstly, assets grow to a sufficient level to pay out liabilities as they fall due and, secondly, do so with as little risk as possible to protect member security. For trustees considering fiduciary management offerings, a big question is whether the provider is good at setting strategy and has a proven track-record. The provider’s skillset should not just lie in implementing strategy.

Alternatives to fiduciary management can mean the best of both worlds for trustees – they get scale from providers, but they also get clear lines of independence (and no revenue share) between asset allocator and asset managers. Trustees also have greater control over investment strategy through their objectives which they set and adapt.

The costs of some alternatives are also very attractive compared to fiduciary management fees when fund manager costs are added to the underlying asset management fees. For example, we are aware of an alternative model recently implemented for a sub-£200m scheme with a total all-in cost of 0.32% for asset management and consulting fees. This model is fully bespoke, real-time risk managed at the scheme level, highly capital efficient and diversified across market and actively managed return sources.

The market for alternatives to fiduciary management is evolving. LGIM’s recently launched suite of delegated solutions has fuelled considerable debate within the industry. LGIM has followed the path of a number of providers after engaging with trustees and consultants. While the LGIM solution is not suitable for all schemes, we feel it merits attention as it achieves the advantages and associated benefits of fiduciary management without the associated cost and conflicts. This is not fiduciary management – but rather an alternative solution that makes a lot of sense for pension schemes of a certain size with an LDI mandate.

Ultimately, there cannot be a one-size-fits-all prescriptive approach. Instead, a holistic engagement where asset managers, trustees and advisers share an integrated strategy has proven to be successful. Each of our pension clients is better funded since we engaged in an integrated approach using a traditional advisory model. This means that discretionary responsibility has not been devolved and there remains independent, objective thinking on external managers assisted by the role of the adviser. We fully anticipate that fiduciary management might be the best choice in some specific circumstances. However, trustees and sponsors should at least be aware that many of the benefits of fiduciary management can be achieved without giving the keys away.

 

Patrick O’Sullivan is director, investment consulting at Redington 

 

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