Towers Watson puts long-term mandates at heart of “performance with purpose”

Consulting firm Towers Watson has developed a sustainability roadmap for asset owners, where “performance with purpose” will be aided by long-term investment mandates and a greater sense of partnership between owners and fund managers.

The firm revealed that one long-term mandate it developed almost 10 years ago for a UK pension fund client has returned 9.2% a year since inception, or inflation +6%. A model portfolio over seven and a half years has added 1.8% of net value. It’s the first time the firm has gone public with this information.

The firm, then known as Watson Wyatt, launched long-term mandates for pension fund clients in 2003 around the time of the Universities Superannuation Scheme’s 30-year mandate competition. The firm has since put in place around 100 such mandates at some of its largest pension fund clients.

The mandates are also leading to lower turnover of both portfolios and asset managers – which leads to lower overall costs – and slightly more concentrated, conviction-led, portfolios. The firm says lower turnover in itself can result in 35 basis points (0.35%) of outperformance. The mandates also show good Sharpe ratios, a measure of excess return.

The focus on longer mandates and more concentrated portfolios chimes with ideas put forward by leading economist John Kay in his recent government-backed review of equity markets. Roger Urwin, the firm’s global head of investment content, said: “This is a narrative that John Kay would absolutely recognise.”

The long-term element of the mandates requires trust and more of a partnership between the asset owner and manager, and is not a legal part of the investment management agreement. Managers can be terminated if it’s judged the manager’s proposition has materially changed.
Urwin declined to name the managers involved, due to capacity issues at the typically boutique firms, although he said they are mostly US wealth management specialists. Larger, more traditional asset management firms, he said, were more nervous of the approach.A key element is a new way to monitor the mandates, away from benchmarking against an index. A ‘balanced scorecard’ integrates key performance indicators (KPIs) about asset managers along with more qualitative assessments that are analogous to a credit rating. So performance is not measured against an index; Urwin says: “Bad benchmarks drive bad portfolios”.

The roadmap – “We Need a Bigger Boat: Sustainability in Investment” – grew out of an initiative called Project Telos that was supported by 22 asset managers and leading investment figures such as Mohamed el-Erian at PIMCO and Jim O’Neill of Goldman Sachs.

“Long-term targeted sustainability mandates may focus on specific themes, such as clean technology or environmental waste services,” the firm says. The work also references the International Corporate Governance Network’s model mandate.

Urwin referred to Pepsico CEO Indra Nooyi’s “profit with purpose” notion and applied it to investment, saying: “We’ll have asset owners having performance with purpose in the future.”

He argued that regardless of whether you are a sustainability advocate or not, a pension fund still has to take into account mega trends and “externalities” (defined as unpriced costs to others). As Urwin puts it: “What it owns is very important societally.”

Urwin is a leading voice in the institutional investment industry. He is an advisory director at index and ESG firm MSCI and has the ear of some of the world’s largest pension and sovereign wealth funds.

He also called for an investment equivalent of the UK’s Company’s Act which obliges corporate directors to have regard to the company’s operations on the community and the environment.

The 24-page roadmap proposes a 13-point action plan for asset owners. It calls on reviews to fund mission, investment beliefs, and mandate specification and contract design. It also calls for a change in emphasis in performance reporting, with quarterly reporting relegated to an appendix.