What is your reaction to the market volatility?
It has been interesting, because it really has brought home to me that unless you have to sell, why should you worry? We have time for things to get better. If you think this is capitalism falling apart, there’s a bigger challenge more generally for the world! You have to go back to the fundamentals and say we have got shares in companies that as far as we can see are still doing business. We still have our ‘keep calm and carry on’ mugs that I bought in the credit crunch. There are quite deep opportunities that might be out there because governments and sources of capital are fairly overstretched. So, the more interesting question is; where are the investment opportunities that actually suit pension funds which do not mind illiquid assets?
You exploit your illiquidity premium.
Yes, why not? Wouldn’t you? If you don’t think you’re going to move until you retire, do you worry about house prices? If you really believe you are not going to spend some of your capital for 20 years, you should make the most of that.
People lament the fact pension funds do not exploit the illiquidity premium. Why is that?
I think part of that is because the world of pension fund investment does focus so much on capital values. For example, we have got a significant private equity holding, just over 10% of the fund. Our challenge has been how we measure the success of that. It is fairly easy for the quoted equities because you have got a benchmark you can use. We try and compare private equity with quoted equity, but this does not help you understand the liquidity premium.
It is fair to say your sponsor took a wobble last year. How did you react to that?
Technically one of the things we have that helps us is a pre-agreed process with a legal structure in place with the company around what happens if we have a deficit. We do an annual assessment, in between the triennial valuations, and that determines what the contributions are for the next calendar year. Our annual discipline means that we can translate that into the potential cash demands on the sponsor. When an event like Macondo happens, you then have a basis for making some rational decisions. Our legal contract also offers the opportunity of a review if the credit rating of the company changes.
Which it did.
Which it did. So we were thrown into a review situation. On the bright side, that was useful. It is very difficult to prepare for the worst when everything seems rosy. The previous year we had renegotiated the legal arrangement and had the discussion when the outlook was positive, and talking about the downside was like thinking the unthinkable. So, in a way, it is easier to have that conversation when there are question marks. But it is also difficult, because the last thing you want to do is distract the company at such a time. The Treasury team did a fantastic job last year, which helped underpin their covenant to us as pension fund. It shows you the value of having contingency plans in place.
Does the industry follow trends?
Yes, and I think it is easy to blame the consultants but it is really difficult to be innovative. In my experience, in my past life as a consultant, if you try to do something different, even if it is the right thing to do, it is very difficult to be the first mover. You are creating difficulties for either external or internal managers. You have to make trustees explain something that is new to their members and why they are doing something that is different. By following trends and doing what everyone else does, there is the safety in numbers and in being able to say that you have done your best. I can understand why we behave like that, and I think the intentions are usually good. Whether it is right or wrong, it is very easy to get caught up in the blame game, rather than being open-minded and thinking about the future.
What makes a good in-house manager?
Somebody who really cares about getting the decisions right. And who knows that every position away from the benchmark is a decision. So, whether it is buying, whether it is selling – it is all about that balance. And not taking risk because that is what your sales person has told your client that you will do: only taking risk when you think it will be rewarded. But it is also somebody who has the personal resilience to move on. So if they have made a mistake, to get on with it.
You have two external fund managers for the UK corporate bonds. Why?
We did not have the in-house expertise for this type of investment. Part of it was also operational flexibility. We did not know how to use external fund managers.
Any plans for further external mandates?
There’s nothing immediately.
I can hear the groans coming from the City.
We are getting older. And there will come a time when we need to move from where we currently are. So, we have got important decisions to make over the next year or so around what we do. What do we want to try and build in-house, and what might we do externally? I have an in-house bias but we have got experience of doing both now which is great.
I think a lot of people would be quite interested in the fact you manage the fund in a three–day week.
I think it is a lot easier to be part time when you are the boss. This is the one thing that if I had the time I would write a book about. In terms of the joys of working part time for both the individual and the company that they work for. The biggest unquantifiable benefit of working part time is space. I can’t be thinking too hard about pensions or investments when I am helping my son with his homework. And it means that you have just a bit of detachment that gives you that wonderful man from Mars (or woman from Venus) opportunity to say: “If I started from scratch that is the way I would do it. And how do I get from where I am now to where I want to be?” Which is great.
What was the big lesson you took from all that has happened over the last few years?
Not getting swept up in the hysteria. Being able to be detached. And I am going to sound like the actuary that I am, but you do need to take the emotion out of the situation. There are times to be emotional and times not to be emotional. And in a crisis, it does not help anybody.
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