Simon Partridge: Trustees, in-house teams and even sponsors are now considering different ways of running pension schemes
The increasing volume of regulation and its resulting impact is now seen as the most pressing concern for pension schemes, latest research from Russell Investments finds.
The fourth edition of the fiduciary manager's biannual UK Defined Benefit Market Insights Study – based on the responses of 115 UK defined benefit schemes responsible for over £270bn of assets – found almost half (46%) of decision-makers identified regulation as the biggest challenge they face.
It said this is more than double the number citing regulation as a concern in its first study in autumn/winter 2022.
This finding is echoed by those expressing concern surrounding reporting requirements, which rose to being selected by 25% of respondents, up from 17% in autumn/winter 2023.
Despite this, the research also found that worries over the market environment have continued to recede as decision-makers appear to feel greater levels of comfort with the current macroeconomic climate – noting that only 32% of respondents identify inflation as a key concern (more than halving from 71% 12 months ago), while just 11% of schemes surveyed are worried about the threat of recession (more than halving from 28% twelve months ago).
Geopolitical conflict, however, remained a key issue for schemes – cited by some 42% of respondents as a key concern.
Russell Investments head of UK fiduciary management Simon Partridge said there was definitely a growing concern about regulation and its impact on what trustees have to do for schemes – whether that regulation is around ESG, funding codes or other elements.
He said: "For respondents to cite this as the biggest concern overall is not only reflective of the industry but I think it's also moving trustees, in-house teams and even sponsors to consider different ways of running a pension scheme – whether or not that's outsourcing and fiduciary management, whether it's thinking about other forms of consolidation or moving to different structures; or even getting to that proverbial endgame of buyout.
"There's a lot being done to look at all the challenges of running a pension scheme, not just in terms of cost, although those are significant, particularly for the smallest schemes, but also in terms of the time commitment and the risks of getting things wrong."
Key concerns for pension schemes in the next six months
Source: Russell Investments, April 2024. The last three options were added for the first time in the Autumn/ Winter 2023 survey.
Scheme divergence
The research also identified a divergence in the priorities of pension schemes depending on their size – something Russell said reflected their different funding positions, asset allocations and endgame objectives.
It said derisking towards endgame remains the main priority for the highest proportion (50%) of large schemes (with assets over £1bn) but was currently a key focus for only one-third (34%) of schemes with assets below £1bn.
In contrast, improving and maintaining funding levels (51%) is the key focus for the majority of smaller schemes.
In addition, nearly twice as many larger schemes registered increasing liquidity as a priority (28%) than smaller schemes (15%).
Russell said these differing priorities could be reflective of the varying asset allocations to illiquids – noting that larger schemes with more illiquid assets would be more likely to highlight increasing liquidity as a priority than smaller schemes that typically hold a lower allocation to illiquid assets. It said this would also explain why derisking was a greater priority for larger schemes than smaller ones.
Current respondent investment priorities by size of scheme
Source: Russell Investments, April 2024.
Investment
The survey also found that asset allocation plans appeared to be evolving – showing a renewed interest in developed and emerging market equities.
The survey found some 19% of respondents indicated plans to increase their allocations to developed market equities in the next six months (nearly double the proportion of 9% 12 months ago), while 15% planned to grow their emerging market equities allocations (more than doubled from 7% over the past year).
It added there continued to be a growing appetite among investors for exposure to private credit, with 16% of respondents indicating plans to increase their allocations over the next six months, up from only 9% a year ago.
On the other hand, property remains the asset class that pension schemes are likely to decrease exposure to, though the proportion of respondents seeking to divest has fallen to 17% from 30% in autumn/winter 2023, indicating that schemes may have managed to redeem their holdings despite the challenged environment – or that nearly half have changed their minds and are retaining these assets.
The survey also found that ESG remained an important focus for many pension schemes, with a particular emphasis on addressing climate change considerations.
Russell said some 58% of respondents indicated their intention to increase efforts on managing climate change risks over the next 12 months but noted the survey also revealed a "clear acknowledgement" of the challenges in addressing other ESG considerations given competing priorities as schemes derisk towards endgame.
Partridge said the number of respondents noting an intention to increase equity weightings was a "surprising element" to come out of the research, even if it was slightly offset by those who were considering reducing those equity allocations.
But Partridge added this wasn't a "re-risking situation" – more a rebalancing and a "cautious re-entering" into growth assets.
He explained: "I think those looking to increase allocations reflects either better confidence in the macroeconomic environment, but it may also just be a rebalancing back into those growth assets after having to sell them earlier as part of the gilts crisis."
Schemes expected to increase asset allocation exposures in the next six months
Source: Russell Investments, April 2024.
ESG
Russell said pension schemes also appeared increasingly cognisant of the challenges they face in acting on ESG issues, which is reflected in the priority being placed on ESG considerations overall as well as a more focused approach being taken toward key ESG considerations.
It said the extent to which ESG is considered a key priority has declined among both large and small schemes, with 48% of schemes with over £1bn of assets and 43% of those with less than £1bn of assets currently identifying this as a priority over the next six months (a fall of 4% and 6% respectively compared to Russell's autumn/winter 2023 survey).
But it said climate change risk remains the key ESG focus for pension schemes – with 58% of respondents indicating they were likely to increase their focus on this area over the next 12 months.
In contrast, however, appetite and/or the ability to take action in other areas is more limited with respondents stating they were unlikely to increase their focus on impact investing (77%), biodiversity and nature (63%), and social impact (64%) over the next 12 months.
Partridge commented that the focus remains "very much on climate change" – something he said was not surprising given the amount of regulatory and media attention given to the topic.
But he said the limited appetite to take action in other areas was possibly down to the timeframe of schemes.
Outsourcing
The research also looked at attitudes towards outsourcing – finding that almost three-quarters (72%) of schemes surveyed indicated that they have appointed or plan to appoint an outsourced provider, with depth of expertise available (51%), risk management (51%) and improved governance structures (39%) identified as the main reasons.
Russell said reporting and transparency (36%) and cost reductions (30%) were also cited as reasons for employing outsourced capabilities as pension schemes recognised the need for additional support to address a range of competing priorities, tackle increasing regulatory requirements and meet their long-term goals.
Partridge said there was a continued focus on risk management, on investment expertise across the growth and de-risking phase as well as governance and implementation across schemes of all sizes.
He said: "This applies to the £10m scheme as much as it does for the £10bn scheme. While there are different challenges for each in terms of the complexity of the underlying strategies and the number of line items, it's all very much focused around getting more expertise into the running of the pension scheme with improved governance and accountability."
Russell Investments' research, The Changing Ecosystem of Defined Benefit Pensions – Vol 4, is available in full here.
