Whilst chatting with a number of DC stakeholders about illiquids, and around the impetus created by the Mansion House Compact and the emphasis on VC/PE asset classes into their portfolios, it struck me that the industry needs more information and education on the subject of private assets, fee structures and performance fees in particular.
There is a view amongst some commentators that they are indeed the devil, although the 2+20 model has existed for many many years, and 82 per cent of all PE funds still charge it (the rest offering lower fees due to lower quality and problems fund-raising). Are we now to expect the UK DC market to change all of that, when these quality managers can ply their trade anywhere in the world at that price? We should ask ourselves whether if it isn’t broke, do we really need to fix it? Working for a global asset manager with plenty of access to these asset classes, I wanted to expel some myths about them and ensure the UK DC investing community has all the facts in front of it to make informed decisions.
At the same time we had concluded some work with Corporate Adviser using their CAPA Index data (the average quarterly asset allocation of 23 master trusts and GPP’s) projecting forward the returns using a conservative 10 per cent allocation, to prove the case for illiquids, and using independent asset class returns as historic data is not well developed unfortunately.
Our roundtable was well supported, not a seat to be found, which suggests a hunger for information around this topic. We had trustees, platforms, consultants regulators, and other actors keen to learn more.
The Mansion House Compact has focused our minds on the way an investment in VC/PE can both help net returns for members, but also the UK economy. In doing so it has zoomed in on the fees that these asset classes charge and demand, but given where we are on VFM and consolidation activity both driving the price to unprecedented low levels, getting them into play is not without its challenges.
The origins of performance fees are from the 18th century and more than likely the East India Company sending ships overseas where the captains were often granted a share of the profits from a successful voyage, known as the “carriage,” to incentivise them to make sound decisions and ensure the safety of the voyage. Creating true alignment of interest in its pure sense, not necessarily that different from where we are now.
At the roundtable, Eric Deram from Flexstone, a private equity fund of funds founder/portfolio manager came along to talk us through the origins, the application, and the reasons why this approach is commonplace. This was an opportunity for UK DC to learn more, to fully challenge and perhaps to accept that if you want quality, and there is a broad dispersion of returns from first to fourth quartile, and if you want the best, you may need to pay for it to access those compelling net returns.
With the benefit of having been at the Mansion House Pensions Summit the day after our roundtable, and before writing this, it was clear that we have government and regulatory ambition. There is conflict still amongst stakeholders; trustees are too risk averse, consultants not willing to move away from price being the main driver, and an unfounded perception of operational risk and complexity being a barrier to entry, although our roundtable looks to dispel another myth right here.
So change needs to happen, the risk of not doing this must be a key risk consideration for all, and notably in the Chairs’ statement. We must move the thinking to net returns, as Damien Webb from Aware Super explained, they have enjoyed 23 per cent annualised returns over the last 5 years for their 6 per cent PE allocation, so decision makers may need to perhaps just “suck it up”, and enjoy the compelling fruits of these illiquid asset classes.
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