The Pensions Regulator (“TPR”) in the UK has published a series of draft “How to” guides for defined contribution trustees, and few people have noticed – but I think one in particular offers real prospects for the sector and the professionals in it. It is the one on Investment Governance. We have a few days to tell TPR that we like what we are reading….
To my mind there are two key sections. The first covers “Financial and non-financial” factors. You may recognise the terms as coming from the Law Commission report on fiduciary duty, and the good news is that TPR has adopted the Law Commission thinking wholesale. It achieves the notable feat of reducing some key Law Commission recommendations to three bullet points, but it is all there including:
“Where you think ESG issues are financially significant you should take these into account.”
The key word there is “should”, trustees should consider factors that will have an investment impact. And so one key mission for the sector going forward is making it clear that the impact of various issues will be financially significant.
TPR also addresses the issue of ethics by saying immediately after the line quoted above:
“Likewise if you think certain ethical issues are financially significant.”
So, TPR feels that if an ethical issue will have a financial impact it too “should” be considered. This is good news. In legal terms ethics is very tricky ground for trustees, but the recognition that where the impact of ethical concerns can be expected to be financial action should be taken is a practical gain for those with ethical expertise.
There is other relevant wording under “Sustainability” (“Once you have considered the longer-term sustainability of your investments, you may wish to take action. This could include making changes to the investment portfolio…”) and “Other non-financial factors” (You may wish to offer members funds that take non-financial factors into account. These include funds that select [on] religious principles, or based on environmental or social principles).
Everything I’ve mentioned so far has been on one page: . We should be waving these words in front of marketing, client relations and new product people. Now that the Law Commission thinking is being used by TPR it will shape the market. The scope for growth in investment approaches that reflect these criteria is huge. UKSIF and its members put a lot of effort into the Law Commission – this is a great return.The second key section is where TPR comments on Investment Stewardship. I have flagged to our UKSIF fund manager members before that I think “the owners are getting restless”, and the evidence is that TPR has been convinced by owner concerns. As well as the FRC, the document links to the AMNT Red Lines website, to the PRI and to ShareAction. The thinking of those groups and others is evident.
I think the regulator’s wording marks a significant development. It points out that many schemes will have their assets in pooled funds and then immediately says:
“We would encourage you to become familiar with your managers stewardship polices and where appropriate, seek to influence them”
and a little later:
“Where practicable you may wish to agree specific voting criteria with your investment managers”
The opportunity and challenge for fund management in aggregate, and for individual firms is clear. TPR is indicating that owner engagement with managers, whether in respect of pooled assets or not, is desirable. Innovative fund managers will show it is both “appropriate” and “practicable” to offer services as envisaged to clients. The risk to individual fund managers is in not doing enough. And there must be risks for the industry overall if the envisaged services do not appear, or do not appear quickly enough.
Further evidence of the regulator’s mood follows immediately in an almost throwaway remark. TPR introduces voting advisory services, and then says:
“Where you don’t agree specific voting criteria with your investment managers….”
Perhaps I’m reading too much into that, but it seems to suggest that specific criteria will be the norm.
After that line, TPR suggests schemes ask questions about the use of proxy voting, for instance how often scheme managers have disagreed with the voting service, and whether there are particular issues on which they consistently disagreed. I think this section has echoes of the pension fund roundtable report on responsible investment reporting from last year. In that piece the grouping of large DB funds suggested they would like to know similar details of how advisory agencies were being used by managers, and what practical outcomes were being delivered. The same focus on evidencing utility and value-add is evident here. As I say, I think the owners are getting restless and their thinking is being noticed by the Regulator.
The Regulator’s comments on Stewardship are, of course, tremendously empowering for good fund managers and for the experts in those firms.
Client interest in this area will offer leading firms the chance to differentiate themselves and to offer new services. Stewardship will go up the list of RFP criteria and any firm which is not resourcing this area will be exposed. This new market will destroy greenwashers.
The document is great news for the people who are working flat out on the voting season. In the past some people have felt unsupported by regulation and have sensed market apathy. The Regulator pushing for a future of considered stewardship carried out in conjunction with clients is extremely encouraging.
Now the document is intended for DC trustees, and as far as I know we haven’t had anything similar for DB, but it’s unthinkable that guidance for those schemes can differ. This thinking must clearly cover all trust based pension arrangements. As for contract-based DC schemes which are regulated by the FCA, TPR says in the introduction to the series of guides that they understand:“…the importance of being closely aligned to the work the FCA is carrying out with independence governance committees in respect of contract-based DC schemes. We are confident that our approach is consistent with that of the FCA as far as possible [in the different regulatory frameworks]”
So this approach can probably be expected to appear in the DC market too.
If this document flags the approaches of both TPR and FCA, then the sector is poised for substantial growth, both in investment approaches and in Stewardship.
Three years ago discussion about a market where manager competence in ESG and RI counted for as much as investment performance seemed ambitious. This TPR document probably means it’s inevitable – as long as it isn’t diluted. The guide is out for consultation until today (May 11), but if you contact DCconsultation@tpr.gov.uk and say you are working on something you will probably be allowed a few days more.
Simon Howard is Chief Executive of UKSIF.