When the UK National Association of Pension Funds (NAPF) published its progress review on the sixth anniversary of the Myners Principles last year, it found that around half of UK pension funds had formally assessed their investment consultants, as Myners had advocated in 2001. However, 51 per cent of trustees cited the lack of a best practice methodology for assessing investment consultants as the main reason they did not undertake formal assessment.
The NAPF was already on the case, having established a Working Group at the beginning of the year, chaired by Mark Hyde-Harrison of the Barclays Pension Fund, to provide a toolkit that would facilitate consultant assessment.
In March the Working Group revealed the four tools it had come up with: a balanced scorecard for pension funds to record how they perceive their consultant’s performance; a pro-forma for comparative data analysis that can be used to request comparable information from each consultancy participating in a tender process; a set of 18 best practice principles, which are still being drafted; and an annual survey of pension funds’ attitudes to their consultants’ services.
The results of the first annual survey – covering 458 pension funds with a median size of £300m, representing just over £480bn (€600bn) worth of assets – were delivered at the recent NAPF Investment Conference in Edinburgh.
Depending on the questions asked, between 86 per cent and 99 per cent of respondents said their consultancies were very good, good or acceptable. Correspondingly, 84 per cent of defined benefit scheme respondents confirmed that they would recommend their investment consultancy to a scheme with similar needs to their own.
Nine out of 10 said that their consultant’s understanding of their scheme and sponsor’s positions was good or very good, and eight out of 10 rated highly on the explanation of technical investment issues to trustees.
“On the key issues of asset allocation and manager selection consultants were rated good or very good by 78 per cent and 76 per cent of respondents, respectively,” Mr Hyde-Harrison told conference delegates. “And on deselection, 83 per cent of respondents felt that consultants made their recommendations at the appropriate time. And there is a great deal of choice for those pension funds who are dissatisfied with their investment consultants. In fact, funds which switched their consultant most recently are the most satisfied. Pension funds are the customers here, and investment consultants will respond when customers are clear about what they need.”
Unanswered questions
But, as debate at the NAPF Conference revealed, that statement begs a couple of questions in a world where, as Mr Hyde-Harrison himself observed, pension funds make greater use of derivatives, make greater demands for alpha from investment managers, and seek integration of funding, investment and covenant assessment.
For example, Rhoslyn Roberts of the Experian Pension Scheme – who considers the scheme’s five-year relationship with its consultant to be very good and feels that the NAPF survey results “generally tally with our experience” - describes how the 2007 valuation and ALM differed from that in 2004.
“This time around there was much more in terms of information and options, but the advisers also really challenged the investment committee about the resources that would be needed were they to move from our passive strategy back to more complex active strategies,” she says. “I don’t recall that being discussed at all in 2004, and it was a bit of a reality check for the trustees.”
Given that this was “a reality check” for those trustees, can it be said that the customers are “clear about what they need”? And if becoming clear involves much more dialogue and engagement with specialised consultants, is a customer-focused toolkit up to the job of assessment?
“The survey didn’t surprise me,” says Kerrin Rosenberg of Cardano UK, which specialises in providing implementation of investment decisions alongside the traditional advisory role. “I’m sure that if you conducted a survey of VHS users before the DVD was invented, you’d have found them to be very satisfied with what they had.”
Hewitt Associates’ Andrew Tunningley, representing a more traditional view of the investment consultant’s role, was similarly concerned that the new toolkit could find itself out-of-date before people have started using it.
“The model of investment advice is changing,” he says. “Many of you out there will be working with us in different ways, buying different things, and, because there is now a whole spectrum of services out there we need to make sure that any measurement system captures that, from the traditional provision of technical support and training, through more directive, recommendation-type services, to full, delegation-type services. I also hope that this type of analysis doesn’t make people think that investment consulting has nothing to do with the actuary, because the way the world is going in DB, you’ve got to have the investment and the actuarial processes linked together.”
Clear objective
Mr Rosenberg’s concerns with the toolkit are more fundamental. As he points out, a clear objective is needed before you can assess anyone’s performance.
Under the traditional advisory model where the trustee or investment committee makes the ultimate implementation decision, softer, client-focused assessment of the quality of advice and quality of relationships makes sense. But under what Mr Rosenberg characterises as the emerging model, where objectives are defined much more by outcomes – where client and advisor develop a much clearer sense of where the client is and where they are trying to get to - it makes more sense for advisors to be assessed against harder, quantitative objectives.
This not only throws the way the annual survey has been framed into question, but also the validity of the balanced scorecard.
“If what you want is an impartial analyst of ideas to help you assess the pros and cons of different solutions, then the balanced scorecard is absolutely the right way to go,” Mr Rosenberg concedes. “But if what you want is real help to develop a corrective solution, I think the focus is misplaced. If the role of the consultant is to help manage the risk and return, the assets and liabilities of the fund as a whole, why shouldn’t we have completely quantitative assessment? You don’t do balanced scorecard assessment with your fund managers, for example, because those things are second-order when the focus is on the destination rather than the journey. You just need to be able to say, ‘Your job was to help us get out of this hole and into that position, so did you achieve that in the most efficient and cost-effective way?’”
In a way, this is perhaps just a more pointed articulation of Mr Tunningley’s point about bearing in mind the actuarial implications of what investment consultants do. Although Mr Tunningley welcomes the balanced scorecard as a “step in the right direction”, he laments that it is “crazy” that it contains a number of questions on manager selection but only one on risk and asset allocation, and is struck that the new survey “didn’t seem to capture anything around results”.
“If we could get some comparative, risk-adjusted performance metrics out there which would enable you to judge how pension schemes were doing in relation to the risk they’re taking, that would be a huge step forward,” he says.
Sean Duxbury of the United Utilities Pension Scheme certainly agrees, and wonders if there are any plans for the annual survey to carry the distributions of scheme performance against benchmarks, split by investment consultant. Mr Hyde-Harrison recognises that this would be “interesting”, but observes the difficulties inherent in selecting appropriate benchmarks and attributing decision-making between consultant and trustees in any given relationship.
Burden on consultants
These problems are the ones likely to get even thornier under the new consultancy model described by Mr Rosenberg, as consultants take on more of the burden and responsibility of decision-making and implementation, and performance assessment becomes more quantitative and outcomes-focused - but within a context of granular, tailored, individual client-consultant relationships.
“If Kerrin is right, who in the future is going to help lay trustees assess the consultants’ offering?” asks Ray Martin, pensions director at DHL. “Will consultants end up assessing one another’s offerings?”
For those operating under the more traditional advisory model, such as Mr Tunningley, that remains a key question.
“The last six months have taught us that very clever investment bankers coming up with complex solutions don’t always get it right,” he says. “It could be too much to ask of many trustees to stand up to some of the solutions being offered under these new models.”
“It’s not a healthy relationship if the client doesn’t have the ability to challenge the advice they are getting,” agrees Mr Rosenberg. “But even in the old world, the value of a scorecard depends upon your ability to assess how good the advice you’re getting is. I don’t think the new model particularly changes that. I think that’s potentially a role for independent trustees and investment committee members.”
Mr Hyde-Harrison accepts that the investment-consultancy model is changing – and that it is probably changing for the better.
“But the change cannot happen unless there is transparent assessment of the people providing the services,” he insists. “That is the challenge that you as an industry have to rise to if you are going to get the new model off the ground.”
