Devising Innovative Investment Strategies to Combat Your Pensions Deficit

David Adkins, Chief Investment OfficerThe Pensions Trust

The Pensions Trust• Established in 1946

• Assets: £4.2bn (30/06/11)

• 37 different DB schemes under one umbrella

• Collective investment – unitised holdings for separate schemes

• Had a traditional investment structure – heavy use of

equities, little hedging, focus on manager reviews

Asset sizes across DB schemes

50

100

150

200

250

300

350

400

1,850

1,900

1,950

2,000£m

• One large scheme representing about half of Trust assets

• Four further schemes with assets greater than £100m

• Collection of smaller schemes

Overview – key areas• Governance

• Diversification

• Hedging policy

• Dynamic implementation

• Process of continuous improvement

Scaleable solutions required to meet different needs of schemes

GovernanceInvestment Committee

Funding and Investment Strategy

Review Group (FISRG)

Investment Strategic Opportunities Group

(ISOG)

Investment Manager Review Group Investment Team

Recommends scheme specific funding and

investment strategies

Considers and implements (with IC

approval) new opportunities

Monitors managers, custodian and advisers

Implementation and day to day monitoring

Sets long-term strategy and asset allocation

Supported by: • 2 independent advisers• 2 investment consultants

Diversification of growth assetsQuoted equitiesThree active

managers

Market cap passive

Fundamental passive

Alternative liquid growthGlobal tactical asset

allocation (GTAA)

Absolute return (2 managers)

Fund of hedge funds

Alternative illiquid growth

Property (UK and European)

Distressed debt(2 managers)

Infrastructure (2 managers)

Target ratios: 50% 30% 20%

Division of responsibilities• Long-term investment targets for each bucket

• Allocation across buckets agreed by trustee and employer (through FISRG)

• Allocation within buckets determined by Investment Committee

• Managers monitored against asset class specific benchmarks

• Active consideration of new opportunities

Disciplined asset-liability risk management – liability hedging

‘Markets can remain irrational longer than you can remain solvent’ (Attributed to John Maynard Keynes)

One reason why liability values have been rising

Schemes are exposed to the risk of falling long-term interest rates and/or rising long-term inflation expectations

24/02/1997

24/07/1997

24/12/1997

24/05/1998

24/10/1998

24/03/1999

24/08/1999

24/01/2000

24/06/2000

24/11/2000

24/04/2001

24/09/2001

24/02/2002

24/07/2002

24/12/2002

24/05/2003

24/10/2003

24/03/2004

24/08/2004

24/01/2005

24/06/2005

24/11/2005

24/04/2006

24/09/2006

24/02/2007

24/07/2007

24/12/2007

24/05/2008

24/10/2008

24/03/2009

24/08/2009

24/01/2010

24/06/2010

24/11/2010

24/04/20110.000.501.001.502.002.503.003.504.00

Over 5 Yrs ILG Yield (5% inflation)

Liability hedging is a ‘dimmer switch’, not an ‘on-off’ switch• Liability hedging (of interest and inflation risks) is an investment decision within

a scale of 0-100%

0% 100%

Higher hedge ratios if/when yields improve

20%

Target hedge ratio at current yields

Most TPT schemes have hedge ratios <10%

No hedging: full risk exposure

Full hedging: ‘locked in’

Disciplined asset-liability risk management – dynamic de-risking

Chart Title

Time

Solv

ency

Lev

el

Wouldn’t it have been nice to de-risk at these points?

Generic de-risking strategiesW

eigh

ting

to g

row

th a

sset

s (%

)

Straight Line Immediate Reduction Slow Acceleration Delayed Start

Simplest and most obvious de-risking pathway, but rarely used

Holds on to growth assets when most needed (i.e. the deficit is at

its greatest)

Has greater risk

Appropriate when there’s a compelling need to reduce risk now.

Gives trustee breathing space for further risk reduction over time

Appropriate when solvency level is so low that the current level of growth assets needed for some time before risk-reduction can

reasonably commence

Solvency level (%)

Sample de-risking strategy

Solvency level Growth assets Liability focussed assetsCurrent 52.5% 47.5%

80% 45% 55%85% 40% 60%90% 35% 65%95% 25% 75%

100% <20% >80%

Real time monitoring of funding positions• Tool in place to monitor funding and solvency levels of all schemes on a

daily basis

Source: Towers Watson

Items under discussion• Short-term defensive strategies:

– Includes consideration of tail risk hedging– Most difficult area is how to decide when to do it without it being

too late (given the funding level of our schemes)

• Engagement overlay:– Appointing an outsourced engagement provider– Objective for investment team to ‘learn by doing’ to provide

additional benefits as more manager monitoring delegated– Final aim still for fund managers to do this properly!

A lasting strategy• Structure of investment strategy designed to provide maximum

flexibility to meet the challenges ahead

• Made maximum use of technology and fresh, but well tested, ideas

• Focused on implementing solutions that provided bespoke strategies for individual schemes whilst also being scaleable

Thank youAny Questions?