Ealing’s Ian O’Donnell: LGPS pooling – the local authority view

The Local Government Pension Scheme is undergoing radical upheaval – so what do the local authority’s CEOs, S151 officers and finance directors really make of the process. Ealing Council executive director of corporate resources and Society of London Treasurers president Ian O’Donnell tells Corporate Adviser cost savings are already feeding through, the Government’s belief it will trigger an infrastructure boom is misguided and private sector providers are going to have to get used to public sector tendering processes.

Where do pensions sit in the list of priorities of the Society of London Treasurers members, chief financial officers and other senior local authority executives?

They are clearly very important, but top of the list at present is the funding crisis in social care. That is creating massive budgetary pressures. Housing and the cost of temporary accommodation for homeless people is a growing issue. But pensions is a key area and Section 151 officers do have a responsibility to make sure effective governance is in place. This is a triennial valuation year, so that jacks up the awareness of pensions in the minds of local authority executives.

And what has the triennial valuation revealed for the Ealing scheme?

Overall the position is not as bad as we had feared. A lot of councils are seeing the level of funding against liabilities rising. On the liability side, we have had some changes to the scheme recently that have been positive, and we have changed our actuarial methodology. In 2013 when we looked at the local government scheme we were looking at a 79 per cent average funding level. Today it is higher than that, but on a different basis. Some funds have moved into alternative investments to get a higher yield.

What do you think of the LGPS consolidation policy initiated by George Osborne?

The policy is based on a fundamental flaw in logic. The idea of pooling is partially about achieving savings through scale but also about creating opportunities to direct funds into UK infrastructure. I do not have a problem with the former, making the investment management industry more effective, reducing administration etcetera – and it does achieve that. Bigger is not always better but if you have a large group of clients looking to deliver performance, you are more likely to succeed. I am confident that pooling is already delivering savings.
But when it comes to infrastructure I think it is simply not the case that local authority pension funds can invest in sub-optimal investments in infrastructure that any other investor would not look at. The idea that there are loads of projects waiting for investors is just wrong. Osborne’s idea that local authority pension funds could be forced to take on projects that no other investor would take on is not acceptable to any council in the role of trustee. But conversations are taking place in an interesting direction that suggests that the Government might take up some of the slack in investment returns. If the local government funds benefit from an extra government premium to bring returns up to an acceptable level, that could work.

And how do you think Osborne’s policy has been received by other local authority executives?

Some councils are still fighting a rearguard action and do not want to accept there are any benefits coming from pooling. They were arguing that there was sufficient competition between fund managers already because local government pension schemes were already talking to each other and setting expectations. But that is not a common view in London. The London CIV was something that had already been on the blocks before George Osborne came up with this plan, so there was already a lot of collaboration early on.

What, if any, obstacles or challenges are emerging that could impede successful pooling?

We have already moved some of our fund into the CIV. The process of moving assets is relatively straightforward. The hard bit has been getting the funds up and running within the CIV and simply getting them to a point where they are able to take schemes funds. We have some parts of the fund that we would like to transfer to the CIV but it is not fully set up to receive them yet.

And is the process actually cutting costs?

Yes. The figures negotiated are better – it is definitely cheaper. When the next tranche of mandates (currently being worked on) transfer, the CIV will have been responsible for boroughs achieving savings of circa £5.9m in aggregate fund manager fees. These savings include savings achieved from negotiating passive investment fee reductions for some mandates which are being held outside the CIV.

Will the current pools stay as they are, or will local authorities switch?

Once a local authority is in a pool the likelihood is that they are in it forever, although if a scheme really does want to switch pools there is no legal obstruction to doing so, so far as I know, but the costs involved could make this prohibitive.

Are there big differences between local authorities on specific ethical issues? And will finding a consistent Environmental, Social and Governance (ESG) policy be difficult for pools?

On ESG issues there are big differences between different authorities. For example, Waltham Forest has taken the decision to divest completely from fossil fuels within the next five years. It will be important to cater for these political aspects.
Some local authorities take a very active stance and some take the view that they want to get the best deal. Local authorities are political bodies and trade unions are also stakeholders in the pensions, so there is quite a lot of politics coming into the debate. So pooling does present challenges. The London C I V has done surveys and it is still a work in process to reconcile all views. But it is possible to have some screening within the CIV.

Are the new governance arrangements for pools working?

Some pools are looking at joint governance arrangements, but all are going for FCA-regulated vehicles for pooling. I think having that as a safety net is a very good idea and gives some protection against political interference.

Are we seeing a culture clash between the operating models of private and public sector bodies, and should pools be tendering all their roles out competitively?

Pools are going to be run according to FCA regulations. Most local authorities would be comfortable if pools went by the rules around competition and access to jobs that currently exist in the public sector. But the appointments made in relation to the London CIV have been made more in line with private sector practice, and that has sparked some controversy. There is a great deal of emphasis in government around procurement and transparency. So the expectation is that in future all posts will be advertised. Time will tell whether this local authority culture bias continues or whether a more pragmatic private sector approach takes over.

Some local authority schemes are approaching the point where considerably more money will be coming out than will be going in. Are schemes ready for this?

We have fewer people working – we have had so many cuts – so the proportion of pensioners to actives is increasing, which means we are getting less cash flow positive by the day. People have recognised this and are taking it into account in their planning and asset allocation and starting to think about LDI strategies.
This is an issue that will have to be settled nationally not locally. I cannot imagine pensions won’t be paid; whether that becomes the problem of the council taxpayer or not remains to be seen.

Wandsworth and Richmond have just got approval for the merger of their schemes – will we see more of this in the future?

Yes if it will drive down costs. In Wandsworth and Richmond’s case the merger of schemes came about because of the decision to join up as a shared service with a single chief executive and finance director. That became an important opportunity for them.
The merger was driven by relative funding positions. They realised that Wandsworth’s position was very strong, whereas Richmond’s was less so. But there is no overlap in contributions on the pension scheme from council taxpayers. I can’t see Wandsworth agreeing to pick up the tab for Richmond’s pension scheme liabilities.

What do you make of the financial services professionals that assist you?

Most of them are very good. The actuaries we use are very knowledgeable about the more arcane technical aspects. We have been trying to create cost savings in all areas and creating competition between them is a particular area where we have succeeded in this. Several years ago Ealing brought to the market a contract, that was open to other local authorities to join, that required actuaries to participate in a competitive tendering process. This ensures they offer competitive fees.

What do you make of the practice of pension consultants both advising on investments and then managing them?

It is essential that the various conflicts surrounding consultants are managed. I have had the experience at a former local authority where the actuary was also providing advice on which fund managers to use. They ran a beauty parade on our behalf, but I was not entirely comfortable with it. An independent adviser is better in my view, and a competition done on the basis of rational and meaningful indicators is best. Sometimes there is a risk that advisers can be too comfortable with certain fund managers, although the current policy is changing that dramatically. I doubt any local authority schemes have taken up implemented consulting services from advisers. It does present major conflicts that are difficult to manage.

About Ian O’Donnell

Society of London Treasurers – President

Employment – Current

Executive Director of Corporate Resources, statutory S151 officer, Ealing Council

(And) Treasurer, West London Waste Authority

Employment – Previous

Director of finance, Waltham Forest
Assistant director of finance, Lambeth
Head of client financial services, Camden