Conflicts of Interest Cost LGPS £6.2 Billion Over 10 Years.
In the first ever report of its kind CLERUS analysed Local Government Pension Schemes (LGPS) performance data to quantify the economic benefits of the various investment advisory alternatives used by Schemes. This is the first time it has been possible to provide transparency in this important area, across a well-defined pool of capital with similar long-term objectives. The analysis demonstrates how simple performance measurement and attribution can provide valuable insights which can lead to straightforward improvements to investment governance and performance.
- True cost of investment consulting advice to LGPS users is at least 0.5% or £740m per annum This represents a factor of around 50 times the headline fees over the past 10 years
- Separating providers of actuarial services and investment advice added 0.1% to annual returns
- Independent advisors have not been able to offset the cost of consultants’ conflicts of interest
- No significant difference in performance across main consultants measured on annual return or manager selection over past 10 years (all detract value)
This analysis reveals systematic value detraction across portfolios from what are well-flagged conflicts of interest inherent in investment consultants’ business models that are not being effectively managed. This is an unintended consequence of current regulation which helps sustain these high costs to pension funds, because the ‘requirement to take advice’ has taken precedence over the optimisation of performance via a sensible and long-term investment strategy.
CLERUS’ research demonstrates that hiring a consultant to advise or manage investments is not a substitute for good investment governance or for the practical and applied investment expertise required to deliver desired outcomes. Investment recommendations are obviously made with an objective to improve results, but the key to justifying short-term investment activity must come with the requirement to demonstrate positive value, when compared to a more stable and long-term investment approach.
The recommendation of this report is that regulations are modified to promote clarity and transparency as better regulatory principles. This would allow trustees and investment boards to make informed decisions and focus on what they are best at. In addition, we suggest that trustees find ways to improve measurement of consultants’ impact on decision-making and take urgent steps to offset the cost of the conflict of interest – either by adding investment professionals who are able to challenge advice effectively (to reduce short-termism) – or by starting to unbundle the investment advisory services they receive.
Henrik Pedersen, Managing Partner & Co-Founder of CLERUS said:
“Up to now, due to the lack of transparency in this area, it has been difficult for Schemes to assess the full cost of investment consulting advice on fund performance.”
“Without this important information there has been little financial incentive for Schemes to challenge what has been perceived as a relatively small cost of consultants, the use of whom has been forced upon them by the regulatory framework.”
“However, this analysis suggests that prioritising performance assessment based on headline cost can be misleading because the investment decision-making that follows investment advisors’ recommendations is the single biggest factor in determining investment outcomes”
“Significant time and effort has been spent trying to identify winning investment managers and strategies, however this process has instead led to systematic value detraction. This report implies that there is massive scope to improve the performance of investment decision-making without the need to change portfolios or taking on any more investment risk.”
“The one-stop shop advisory model where consultants both recommend, benchmark, monitor and manage relations with investment managers may seem a sound and convenient proposition, but it transpires to have been bad governance due to the inherent lack of transparency and inability to assess properly the value added. It also disassociates decision-makers from key parts of the investment process.”
To read the full report “The Price of Short-Term Advice: Performance Attribution of Investment Advisors using LGPS Data” click here
CLERUS was founded to offer independent senior investment management, governance and decision-making expertise to Pension Funds or other asset owners looking to evaluate the efficiency of their current investment management process.
CLERUS co-founders Henrik Pedersen, MBA and Richard Rothwell, FSIP, ASIP are both seasoned financial experts with many years of applied institutional investment experience, which they recognise could be of value to those pension-fund investment-decision makers, who might lack the applied investment experience to question the investment advice they receive.
CLERUS investment governance and performance review process been has developed and successfully deployed to evaluate and improve the performance of investment decisions within leading investment firms and over many years.