Investors can now invest more easily in productive finance assets since the introduction of the innovative Long-Term Asset Funds (LTAFs).
These are regulated open-ended investment vehicles designed to enable investors such as defined contribution (DC) pension funds with longer term horizons to invest efficiently in illiquid and private assets. The UK’s Financial Conduct Authority enabled the innovation by creating a new regulatory regime which came into force in 2021.
In March, Schroders received regulatory approval from the FCA to launch the first LTAF. At the time, the asset manager’s group chief executive said there are some great industries and firms which could be further supported by long-term capital, and the LTAF structure is designed to address this.
In May, Aviva Investors launched an LTAF which consists of an initial £1.5bn portfolio of selected direct real estate assets seeded by Aviva UK Life.
BlackRock followed closely behind, launching an LTAF for DC schemes that will invest in a blend of private asset classes including infrastructure, private credit, private equity, and real estate.
Dominic Byrne, head of DC strategy for EMEA at BlackRock, says: “Our LTAF has been designed to meet the operational demands of the DC marketplace. It will invest in a range of assets across the liquidity spectrum to allow the portfolio to have regular subscriptions and redemptions whilst considering the liquidity of the underlying investments.”
The theory goes that private assets can help DC pension investors achieve their aims of a good outcome in retirement. The LTAF regime has been specifically designed to provide a regulated fund structure that provides a framework to invest into these types of assets.
Hymans Robertson’s senior DC consultant Elena Zhmurova says a number of asset managers are expressing interest in launching LTAFs:
“There is a lot of enthusiasm and eagerness to offer solutions for the DC market. At least five or six large asset managers are either developing or already launching an LTAF fund, and there’s a willingness to offer flexible terms and competitive pricing. We are excited about the level of innovation and the level of interest from all market participants and we really hope that the industry will collaborate to progress this initiative.”
How will these work in practice in DC schemes and DC master trusts, and what benefits will
they bring? David Whitehair, Janus Henderson’s director of institutional DC, says LTAFs are a helpful addition to the options available to investment managers when looking to bring investment strategies in unitised fund form to DC schemes.
“The vehicle specifically helps those looking to bring more alternative and private market strategies to the market as this is the intention behind this particular vehicle. The question of whether LTAFS will really take off will not depend on the vehicle wrapper itself, but rather what lies within them. There are indeed other vehicle options for managers and clients looking to bring alternative investment to market, such as the Luxembourg Reserved Alternative Investment Fund (RAIF),” he says.
It will help investment managers bring new ideas to the DC market that potentially they haven’t been able to before.
“Therefore, DC schemes could now have a larger array of investment options to select from when seeking to best meet their investment needs,” says Whitehair. “If schemes want to explore new options for how to best achieve diversification in terms of both risk and return then a greater array of investment choice, supported by the LTAF launch, will help in this aspect.”
Diversification benefits
One of advantages of LTAFs is they can help support diversification of DC pension investments by providing structural exposure to private markets.
“In the last 10-15 years, private markets in most asset class categories performed better than public markets, but they also offer different drivers of return, so this is a very good diversification approach,” says Zhmurova.
According to Byrne, many of these private markets have strong growth and diversification features over the long term and they are investments that many DC schemes do not currently have in their defaults.
He says it is important to understand what types of private assets to own as they will have different risk profiles. “For example, private equity is very different to infrastructure debt. The LTAF is also about structuring. DC schemes are large and growing so the ability to deploy and maintain allocations is key. The open-ended nature of the LTAF is beneficial here as it allows schemes the ability to maintain exposure to private markets over time.”
There are clearly lots of benefits from investing in LTAFs, but there are risks due to the illiquid nature of private markets.
The risks of private markets are very different by nature compared to public markets and Zhmurova says it is important to look at manager selection and the dispersion of returns.
The fundamental challenges that present themselves to DC pension schemes and their platforms when considering alternatives/private markets still exist regardless of the wrapper used, according to Whitehair.
“There are considerable governance challenges when reviewing new assets such as those being discussed in the context of LTAFs,” he says. “These assets are in many ways vastly different from the listed markets that DC schemes on the whole have been accustomed to. These can include; how strategies can provide an evergreen structure and deal with regular premiums that DC delivers, how performance is calculated and attributed to all investors as well as from a wider portfolio perspective and how to accommodate a more illiquid structure into the portfolio.”
Will LTAFs drive ‘buy-British’ approach?
LTAFs bring many opportunities to DC pension schemes, but will the innovation help the ‘buy-British’ approach that the UK government would like to see?
Whitehair does not expect to see a direct correlation between sales of LTAF funds and investments solely in British-owned private companies. Trustees and governance committees of DC schemes have a fiduciary duty to act in the best interests of members.
He says: “If schemes decide it is in the best interests of their members to have an investment allocation to private/unlisted markets, then the LTAF is another vehicle that can help to facilitate this. The scheme will work with investment managers who have capability in this area to identify the best approach that aligns with the needs of the client. If a scheme were to decide that ‘buying British’ is best for their membership and that private/unlisted markets is the best way to do this, then in theory yes, the LTAF could help this.”
However, pension schemes often focus on allocating across the globe to source the best investment returns on a risk-adjusted basis for their membership.
Zhmurova says it is important to be aware and cognizant of the risks: “Investments into private markets need to be of institutional quality, and this means to deliver reasonable return at acceptable risk. There is an argument that the investments of British business which are very early-stage startups with unproven business models, may not have that institutional quality profile.”
However, she sees that pension schemes might be at the end of this value chain when those businesses mature and become more stable benefit from the guidance and investment of very sophisticated asset managers and fund managers.
“So, pension funds might benefit by investing in those businesses when they’re at a more mature stage,” she says. LTAFs will provide easier access for DC pension funds to invest in private markets and help them meet their diversification needs, but the jury is still out on to what extent these structures will really drive the government’s ‘buy-British’ approach.
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