The United Kingdom’s local government pension scheme, the £11.5 billion ($16.2 billion) West Midlands Pension Fund, runs a diversified portfolio of assets consisting of equities, fixed income and alternatives; nearly three quarters of the fund is managed by an in-house team with a clear, return-seeking strategy.
Current priority areas include boosting internal management as well as allocating more to infrastructure.
West Midlands is also focused on meeting the mid-year submission deadline around asset pooling with other local authority schemes, part of government policy to create half a dozen wealth funds in place of the current 89 local authority schemes.
“There’s a lot to do,” says Geik Drever, strategic director of the fund which she joined from West Lothian in 2012.
The fund dates from 1972 and provides pensions for some 450 public and private-sector employers in the region.
One strategy, still in its “early stages”, is to develop an in-house actively managed equities portfolio.
Drever, who describes the West Midlands as “a strong believer in the benefits of internal management,” says the decision is motivated by cost cutting and follows on from West Midlands withdrawing from various management relationships it believed didn’t offer the best value through the course of last year.
“We have generated savings of almost £25 million a year on investment management fees,” she says.
“We have looked at all our mandates and rationalised and renegotiated fee structures.
“We are grateful to our managers for rising to the challenge of helping us reduce costs.”
West Midlands has a 48 per cent allocation to equity which it will maintain until an actuarial evaluation later this year.
“Our equity exposure is diversified and not as huge as other local government schemes,” she says.
The global active portfolio has also been inspired by the success of the fund’s internally run UK and overseas passive equity portfolios.
Costing less than 2 basis points and therefore a fraction of what it would in outsourced mandates, the strategy is characterised by investment in five regional index funds that involves frequent monitoring and tracking errors to ensure the minimum deviation from target.
“The benefits of internal passive management include a fixed fee that doesn’t increase in an ad valorem manner and the ability to extract further value through being able to have stock available for stock lending,” says Drever, adding that West Midlands’ passive managers are currently exploring smart beta strategies too.
Along with its public equity allocations, West Midlands runs private equity and fixed income allocations in-house.
The fixed income allocation is split between stabilising assets and an allocation to return-seeking fixed income including high-yield and corporate bonds and unsecured loans.
Another area Drever is keen to build is infrastructure, underweight at 3 per cent versus a strategic 6 per cent allocation.
“We are mindful of the need for yielding assets that will closely match the liabilities of the fund, particularly if they have an inbuilt linkage to inflation,” she says.
“Finding opportunities is difficult and we are not alone in this as the desire for such assets is strong not just in the pension fund world but in the wider investor universe.”
One opportunity will come through West Midlands membership of the Pension Infrastructure Platform, PIP, a government initiative to encourage funds to invest more in infrastructure, which has secured more than £1 billion in commitments from pension schemes so far.
Drever has overseen a buoyant year at the fund which returned 15.1 per cent in 2015, outperforming its benchmark return of 11.6 per cent.
The main contributors were US equities and private equity, with the fund’s 12 per cent allocation to private equity returning 24.6 per cent over the year – the best-performing asset class.
“We have been a long-term investor in private equity and the higher weighting in this area combined with a number of good funds has paid dividends,” she says.
Now Drever’s priority is to ready the fund to join the £35 billion pool of eight other local authority schemes across the Midlands, in accordance with government pooling policy.
The process is going well, she enthuses.
“We’re really pleased with progress so far and we’re excited by the prospect of having a much wider resource to call upon as well as the potential cost benefits arising from economies of scale.”
The pool benefits from a regional fit and has already clarified common values like the role ESG will play across the portfolio.
The eight separate funds will decide their own asset allocations, and then delegate management to the pool, she says.