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Whitehall backing can help release pension fund investment

If you believe the ministerial hype you might be forgiven for thinking that the UK’s investment crisis is about to end as the cavalry, in the form of the pensions industry, ride over the hill with billions to spend on local and national infrastructure projects. While the planned £2bn Pensions Infrastructure Platform and recent local authority pension fund investments in social housing and waste management are to be applauded, there is little evidence of a dramatic step change in pension fund investment.

The mood music is nevertheless changing, and over the next few years we could see more local authority pension funds investing in the UK, rather than abroad.  It will be more evolution than revolution and there are limits to what can be achieved given the past losses in the sector, but there is a growing interest in so-called ‘impact investment’, including social finance and alternative forms of infrastructure funding.

The DCLG, for example, is considering removing the 15% cap on the amount local authority pension funds can invest in limited partnerships. This could boost investment in new growth funds, like the Evergreen Fund, which was established with the support of local authority pension funds in the north west to provide funding for local regeneration projects where invest is proving difficult to find.

While lowering the cap on its own is unlikely to open the floodgates to large scale investments in local schemes or herald a wave of investment in higher-risk capital projects, it would be a positive signal from government. As the National Association of Pension Fund Managers stated, reforming the regulations would be a ‘welcome first step towards a new phase for local authority pension fund investment in UK infrastructure’.

Support from the government’s Homes and Communities Agency for the £25m investment by the Greater Manchester Pension Fund in the region’s ailing affordable housing market is another sign of a shift in Whitehall’s attitude towards utilising local authority pension funds for wider economic and social benefit.

However, as the recent Smith Institute/CLES report on investment by local authority pension funds, Investing for Growth, concludes, there is a lot more government could do to help. Rather than standing on the sidelines, the government could actively promote innovation in the sector and support the spread of best practice, especially around co-investment schemes and the pooling of funds (which eliminate perceived conflicts of interest and achieve the large scale many of the fund managers are searching for).

The report showed widespread support among local authority pension funds for more practical support from government, including a request to the Treasury to underwrite some of the risk in impact investments which have demonstrable social or environmental benefits. If ministers are serious about kick-starting the economy they can’t expect the pensions industry (and other institutional investors) to do all the heavy lifting.

Some level of match funding (‘seed investments’) and de-risking projects will be necessary, especially given the general lack of investor confidence and the sectors legitimate concerns about ‘soft money’ going sour. As the report points out, trustees and their advisers are looking to the long terms and worry about the growing number of property developments that have stalled once public subsidies or tax breaks come to an end.

Pension fund trustees are also ever mindful (as they should be) of their fiduciary duties, and although there is some interest in lower returns for economic and social benefit, the majority of funds interviewed in the report said they would only be interested in these types of opportunities ‘if they stack up financially’. Some of the larger funds (which can afford the transactional costs) were, however, willing to take on sub-optimal investment if they could be ‘blended’ or ‘layered’ with conventional investments.

The report calls for government to take the lead by funding an independent external agency to act as a dedicated clearing house for potential projects that local authority pension fund could invest in. Such an agency could offer transparent valuation and trusted financial reporting standards on impact investments. Furthermore, the agency could provide guidance and advice to pension fund trustees and managers and support the growth of pooled impact investment funds.

The local authority pensions funds industry has its part to play in helping restart the UK economy, but progress will be grudgingly slow without active government support. Backing an independent agency to filter and certify local projects for jobs and growth is not a bad place to start. 

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