The success of the UK local government pool, Border to Coast, is a walking advertisement for the benefits of scale. In the three years since formation the fund has proven success on both sides of the ledger, providing significant cost savings for its underlying partner funds and giving them access to investments they would not have dreamed of as single entities. The passionate CIO of Border to Coast, Daniel Booth, talks to Amanda White about the fund’s success and what is next in its quest for constant improvement.
Back in 2015 the UK government directed the 90+ local council pension funds to be organised into eight pools of capital enabling the more efficient management of assets.
Border to Coast is the largest of those with 11 underlying funds with £55 billion in assets.
While the asset allocation ultimately stays with the local councils, the pools implement the investments and work closely with the partners in what is a big change management program. Border to Coast is building a funds management organisation and a big part of that has been to collaborate and ensure investment funds are built the partners funds will ultimately use.
“Cost is a big driver but we are not aiming to be low cost,” says CIO of Border to Coast, Daniel Booth in an interview with Top1000funds.com. “We are aiming to be a high-performance organisation that is efficient.”
Building the team
Border to Coast has undergone rapid growth over the past three years as it built an asset management business that is customer-owned and focused.
The investment team has increased from 15 to 50 people, with 100 in total within the organisation. About two thirds of the team has been hired in the past 18 months, during lockdown, and about a quarter of the employees had never been to the office until the past month when the office re-opened.
“It is important for culture that people are with each other especially for younger people,” Booth says. “It takes a bit more logistics to be working in this hybrid way, to make sure the right teams are in on the right days. People have been apart for such a long time, there is an excitement to be back. There was a bit of fear and hesitancy at first, but people are social creatures and like to be around each other.”
From a personal point of view Booth said when working from home he missed the creative conversations and the brainstorming with other people.
“Pre lockdown I thought it would have been the technical things we needed to do in person but it’s the creative stuff, and brainstorming is hard to do remotely.”
There are six teams reporting to Booth: the internal equities and fixed income teams, external equities and fixed income, alternatives which includes private equity, private credit and real estate, and then the risk and research team.
Internal versus external
The fund manages about £25 billion of the pools’ assets, soon to be £30 billion, in active equity and fixed income, with the internal and external split evenly.
“As we have been building the business it’s been partly about what we want to build in house,” Booth says.
For example in emerging markets there is an internal fund but for some countries, such as China, the opportunity for high alpha meant the fund was willing to pay for external management to get value.
Generally speaking the fund expects more from its external managers. To justify the fees a 2 per cent outperformance for external management is the benchmark versus 1 per cent outperformance for internal management.
“We expect more for external management. We look at the relative cost savings to manage internally, the probability of success and the alpha potential among other things. There are about 10 things on our checklist.”
But it’s not always black and white. For example investment grade credit management could easily have been managed internally but the cost savings were minimal so the fund decided to award it to external managers.
Border to Coast manages about £6 billion in alternatives with this asset class expected to have the most growth. About 40 per cent of that is in infrastructure and 30 per cent in both private credit and private equity.
“We are raising larger sums each year. As the underlying client funds diversify they are increasing alternatives,” Booth says.
At the moment the investments are mainly funds but it does have some co-investment and Booth is keen to build that out.
“We are generating quite meaningful savings through the aggregation of the assets and getting discounts. Alternatives have a very costly implementation cost so we are making sure we are as efficient as possible on funds and co-investment which is usually fee free or half fees.”
Both internal and external management is outperforming benchmarks Booth says.
“We are generating about £250 million of alpha over passive each year through active management. Our partner funds are aligned with that, they want us to optimise performance subject to a reasonable cost base.”
In addition to the alpha being generated, the fund is targeting £250 million of cost savings over 15 years.
Fee savings are evident across a range of areas; cheaper mandates on passive; savings on active mandates due to scale; co-investment in alternatives; implementation efficiency; and internal management.
Internal management has already proven to have demonstrable cost savings for partner funds. On the launch of the Sterling index-linked bond fund one partner fund transferred a £500 million investment resulting in a £0.7 million annualised cost saving. In addition, when two partner funds transferred to the global equity alpha fund it resulted in £0.9 million in annual savings for them.
Booth says the benefits of a professional investment team also means the underling funds can benefit from efficiency of implementation with attention paid to withholding tax treaties, tax optimisation, and stock lending revenues as well as service provider fees.
In July last year Border to Coast completed its first crossing deal on behalf of two of the partner funds. As part of strategic asset allocation changes one fund was looking to make an investment in UK listed equity and another was looking to redeem. Through collaboration the transactions were managed at the same time and the cost of cash redemptions was reduced resulting in £3.5 million of cost savings. Since then a further five crossing deals have been completed.
While the cost savings are real and plentiful, Booth says a more interesting benefit of pooling for the underlying fund partners is the investment opportunity that scale presents.
Border to Coast has produced 10 vehicles so far across public and private markets.
“We are giving them access to opportunities they didn’t have before including capacity constrained managers,” Booth says noting Brazilian infrastructure and Chinese healthcare as examples of nuanced investments.
In addition the larger alternatives firms want to build relationships with large funds as strategic partners and the local councils as individual funds wouldn’t have been able to do that.
“We can get access to oversubscribed funds where we haven’t been cut back on allocations, venture funds, access to deal flow, co-investments where our pipeline is very active, and we are in a good position to be quite selective,” he says. “Also having a professionally managed team with external managers supporting us, is allowing active management and that means risks are managed and we are earning a premium.”
A centralised professionally managed investment function means there is less dependence on any one person and instead there is a big team with established processes. It also means the fund can be a collective voice for its partner funds for company engagement and as a catalyst for change.
The fund has just announced a net zero commitment for 2050 and is also working with industry initiatives such as one with Albourne to improve reporting on alternative assets.
The fund continues to develop new investment vehicles for its underlying partners. From an investment perspective Booth says early stage venture is interesting at the moment as it benefits from the environment. He also says emerging market asset valuations look attractive and currencies look cheap.
“There are a lot of the interesting opportunities there like infrastructure and healthcare. These are interesting things clients couldn’t do by themselves.”
There will be significant expansion into private markets. There is significant interest in specific climate opportunities from new technology to operating assets.
Global and UK real estate is the focus for the next little while, with the pooling of real estate a large undertaking due to the intricacies of tax among other things.
New equity offerings will also be developed including global equities with different weightings and work on factors.
“Everything we do is fundamental active. All the equities indexes are very concentrated and we think in a period where active management is going to do very well we are well positioned for that.”
There is also a plan to build out the co-investment programs for alternatives which will require a lot of work.
“I am a big believer in continuous improvement, everything we do we can do better. We want to continually enhance our offering and learn best practice and keep evolving,” Booth says.
From a process and management perspective the fund is building out the tangential parts of the organisation such as the research team, risk management and systems that allow for more active positions among the internal team.
“We want to be able to review positions and understand the risks. Risk management is managing the probability distribution of your outcomes and so while research allows us to take active positions, risk management allows the distribution to be managed,” he says.
“I am proud of building a funds manager during a change management project, during a crisis and producing good performance. This is a tribute to a lot of hard work from a lot of people.”