An introduction to
Delegated
Investment
Inside:
• What is delegated investment?
• What are the benefits?
• Who is it for?
• Controlling risk
• Appointing a provider
• Glossary
• 20 questions for trustees
It’s wise to have an expert focus
on
yourtofund’s
performance.
It’s wise
have an
expert focus
on
your
fund’s
performance.
In today’s
ever-changing
financial
landscape, you need an expert to keep
a watchful eye over your investments.
In today’s ever-changing financial landscape, you need an expert to keep
You see, managing investments is becoming increasingly demanding.
a watchful eye over your investments.
Added complexity means trustees need dedicated investment expertise
You see, managing investments is becoming increasingly demanding.
to deliver improved performance.
Added complexity means trustees need dedicated investment expertise
to deliver
The
goodimproved
news is performance.
that, within clearly defined parameters that you set,
our
specialists
make
and
implement
day-to-day
investment
decisions.
The good
news iscan
that,
within
clearly
defined parameters
that
you set,
They
exercisecan
their
deep
and insight
every
day.
our specialists
make
and understanding
implement day-to-day
investment
decisions.
They exercise their deep understanding and insight every day.
Many pension schemes are using our expertise to deliver their investment
Many pension
schemes
are using our expertise
to deliver their investment
objectives
within
a risk-controlled
framework.
objectives within a risk-controlled framework.
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Copyright © 2012 Hewitt Risk Management Services Limited. All rights reserved.
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INTRODUCTION
What is
delegated
investment?
D
elegated investment
has
become
established in the UK
remarkably quickly.
A few years ago it
was almost unheard of; now it is
part of the mainstream. It has
been adopted by a wide range
of pension schemes.
This guide provides a
definition
of
delegated
investment, explains its rise in
popularity and highlights the
opportunities and challenges
that it presents for trustees.
It includes a list of what to look
for in a delegated provider, 20
questions that trustees might
like to consider with their
colleagues, as well as a glossary.
Delegated investment is
the assignment by trustees
of
day-to-day
investment
decisions and implementation
to a third-party provider –
typically either an investment
consultant or asset manager
– within a framework set by
trustees. Delegated investment
is also sometimes referred to as
“fiduciary management” or
“implemented consulting.”
Delegated investment may be
new but it is not revolutionary.
Trustees
delegated
stock
selection to asset managers
many years ago and many
outsource administration and
other services; now a growing
number are delegating asset
allocation, manager selection
and other investment decisions
as well as implementation to
third parties.
Why now? Trustees are under
intense pressure. As well as
experiencing
long-standing
concerns about investment
returns, longevity costs and
regulation, they face growing
calls from sponsors to de-risk
their portfolios. The investment
strategies adopted to deal with
these multiple challenges are
often demanding of trustees’
capacity for acting in a timely
fashion and their investment
expertise.
By
their
own
admission, many trustee boards
are short of both, which is where
delegated investment comes in.
Demand for delegation is
also growing because many
trustees find it difficult to deal
with the complexity of today’s
investment decisions within
the confines of their quarterly
meeting
schedules.
By
delegating to professionals,
trustees are ensuring decisions
are made and implemented by
investment experts every day,
rather than just once a quarter.
n
“Trustees find it
difficult to deal with
the complexity of
today’s investment
decisions within their
quarterly meeting
schedules”
3
BENEFITS
What are
the benefits?
S
peed: By appointing
a delegated provider,
trustees can ensure
decisions are made and
implemented quickly.
In traditional arrangements,
many trustee boards find it can
take the best part of a year to
take a decision and for it then to
be implemented. Consider, for
example, a decision to invest in
a new asset class. This can often
take three trustee meetings – or
nine months – to finalise. First,
there is a meeting to consider
the options, then a meeting to
decide on the particular asset
class and then a meeting to
select managers to undertake
the investment. After that, yet
more time is often lost in legal
paperwork and the practical
issues of moving money from
one manager to another.
By then, prices could have
soared and the original value
opportunity will have been lost.
A delegated provider can invest
in a new asset class within days.
Investment expertise: Many
trustee boards include only a
sprinkling of investment experts.
Yet they increasingly invest
in complicated investments
such as derivatives and hedge
funds. Further, many pension
funds have adopted intricate
strategies such as liability-driven
investment in an attempt to
address their financial problems.
These are tricky strategies
for traditional trustee boards
to manage. By appointing a
delegated provider, trustees are
4
appointing investment experts
with the capacity to deal with
complexity.
Control: It is often said that
delegation involves a loss of
control; that by appointing a
delegated provider, trustees are
handing over the reins to a third
party. But this claim does not
stand up to scrutiny. Trustees
still make the big decisions: they
set the risk and return objectives
and they define the permitted
investments. Meanwhile, the
provider takes the day-to-day
“Many trustee boards
have little time to
focus on strategic
investment. Much of
their time is spent on
short-term decisions”
decisions and is also responsible
for
implementing
those
decisions. The parameters within
which providers operate are
set out clearly in Investment
Management
Agreements
which, together with clear
reporting, give trustees the
control they need to carry out
their responsibilities.
Cost: Another myth about
delegated investing is that overall
costs rise because providers
charge fees on top of those
already charged by the underlying
asset managers. But trustees
have told us that total costs do
not always increase. Providers’
fees can be offset by a number
of savings including lower fund
management fees. The latter
reflect delegated providers’ buying
power. Bulk discounts can make a
significant difference, in particular
for small schemes.
Diversification:
Diversification presents trustees
with a significant governance
challenge. Many schemes have
been encouraged to diversify
their investments in order to
reduce risk. But as they increase
the number of asset classes and
managers in their portfolios, they
have to spend more of their
scarce time selecting, appointing
and reviewing managers. They
soon find their meeting agendas
are longer than ever. By
delegating
to
third-party
providers they can achieve more
diversification than can many
boards of trustees operating
traditionally. Trustee time: Trustees’ meeting
agendas are extremely long,
swollen by new regulatory
requirements. Many boards have
little time to focus on strategic
investment and find much of
the time that they allocated to
investment is spent on short-term
issues. By delegating day-to-day
decisions and implementation to
a third-party, trustees can focus
on longer-term matters such as
the performance of their chosen
delegated supplier against their
own long-term risk and return
targets. n
USERS
Who is delegated
investment for?
D
elegated investment is used by all timely decision-making, we expect many more
kinds of pension schemes. Some are frozen schemes to delegate decision-making.
large and some small. Some are open,
Similarly, delegation is also proving an
some closed and some frozen. Some attractive solution to the challenges of flight
have flight plans and some do not. plan management. Flight plans, which are
Some are well funded and many are in deficit.
long-term tailored investment plans that
That said, we have found that delegation has typically incorporate trigger points for de-risking
particular appeal for smaller and frozen schemes. as funding levels improve, are difficult to
It is easy to see why. Delegation
manage, especially within the
allows smaller schemes to benefit “Delegation allows
confines of a quarterly meeting
from discounts on funds that
schedule. They require close
they would not otherwise enjoy smaller schemes monitoring and timely action
and, partly as a result, to access to benefit from
when the portfolio hits pre-set
a wide range of asset classes (and
trigger points. Delegation
investment styles) usually open discounts on funds
meets these needs. only to larger schemes. Small
Trustees can delegate the
that they would not
schemes don’t tend to have the
whole or part of a portfolio.
ability to dedicate resources to otherwise enjoy”
Many schemes find delegating
investment issues in the way that
a part of a portfolio – for
larger schemes can, for example, by appointing example a particular asset class – an attractive
a chief investment officer.
way of familiarising themselves with the
Frozen pension schemes, which have closed to delegated approach. It allows them to put a toe
future accruals, can also benefit from delegation. in the water.
Many frozen schemes report having both slow
Delegation comes in many forms. But not all
decision-making and few investment experts providers cover the whole range. Trustees should
on their trustee boards. Given that delegation check the flexibility of their prospective provider.
specifically meets the need for expertise and n
What trustees want
Why delegated investment helps
Focus on scheme liabilities
Tailored portfolio, driven by liabilities
Control
Trustees set risk-return objectives and monitor performance; clear reporting
Performance
Best-of-breed fund managers (where providers carefully
select third-party funds)
Capture market opportunities
Timely decisions and implementation
Lower fees
Discounts from bulk buying and other savings
Lower volatility
More diversification
Time to focus on strategic issues
Delegating day-to-day decisions and implementation to
third-party
5
RISK CONTROLS
Controlling risks
I
n a delegated arrangement trustees
delegate day-to-day decisionmaking
and
implementation
to a provider who takes on the
task of making those decisions
and ensuring they are carried out
within the parameters set down
in its agreement with the trustees.
Providers need robust systems to
ensure they always act within those
parameters.
Providers who only use thirdparty funds also need to select these
funds carefully, using proven skills
of manager selection and extensive
due diligence. At Aon Hewitt
we normally monitor the risks in every
portfolio that has been delegated to
us not annually or quarterly but daily.
We go further: four teams normally
monitor each portfolio each day.
The teams cover asset allocation,
volatility and other investment risks,
investment guidelines and operational
risk. As a result of this multi-faceted
daily risk monitoring system, we
sometimes know about breaches
to investment guidelines before the
underlying fund manager has noticed
anything is wrong. Most trustees find
it impossible to achieve this level of
scrutiny. By appointing a delegated
provider trustees can substantially
improve their risk monitoring.
6
“Many boards appoint
their consultant because
they are familiar with
them and trust the
people”
Appointing a delegated provider
Most providers are either investment
consultants or asset managers. They
are competing to provide delegated
services. How should trustees choose
between them? Many appoint their consultant (or
rather their consultant’s specialist
arm) as their delegated provider
partly because they are familiar with
the consultancy and trust the people.
Consultants have long provided
advice to them; they understand their
clients’ liabilities, their relationship
with the sponsor and often the
history of the scheme. Other trustees
appoint asset managers, drawn by
their investment track records, clear
descriptions of investment process
and the investment experience of
their staff.
As time goes by the two kinds of
provider should be judged, at least
in respect of delegated mandates, on
the same criteria. Consultants must
provide performance track records
and asset managers must show they
have an understanding of liabilities.
Trustees need to be sure their
providers can do both.
Trustees also need to be aware of the
potential for conflicts of interest. On
the one hand some asset managers
invest delegated clients’ money in
in-house funds. In some cases these
funds will have passed a number of
tests for inclusion in portfolios but
this may not always be the case.
This is not a problem for most
consultants as they are not asset
managers and only invest their
clients’ money in third-party
funds. Either way, trustees need
to be sure that their provider
•
has access to information on
•
underlying holdings.
Consultants are often said
•
to present other conflicts of
•
interest. This is because they
•
are often the established
advisor before they (or their
•
specialist arms) are appointed
•
as delegated provider. For their
•
part, some consultants see
delegated investment as an
•
extension of their consultancy
•
services; in other words they
selection, asset allocation and risk
monitoring.
The
continuity
of
service
provides
reassurance.
Many trustees who have appointed
consultants as delegated providers
have not felt it necessary to hold a
beauty parade nor to get independent
advice. We expect more trustees will
get independent advice over time. n
What to look for
are bolting-on implementation
to their existing advisory
services which include manager
Good understanding of your liabilities
Tailoring to your needs
Investment credentials
High quality third-party funds
Opportunity for increased diversification
Due diligence process on funds and fund managers
Daily risk monitoring
Fund discounts
Clear legal agreements
Clear, unified reporting
• Willingness to work with independent advisors
7
GLOSSARY
Glossary
A
Accrual.............................................................................. Benefits that build up in a pension fund
Asset allocation.....................................................The way a portfolio is split between asset classes
Asset class..........................................The main types of investment, e.g. equities, bonds, property
D
De-risk.......................................................... Reducing risk through a planned investment strategy
Delegated investment...................................... The assignment of day-to-day investment decision-
...................................................................making and implementation by trustees to third-party ....................................................................................providers within parameters set by trustees
F
Fiduciary........................................................A trusted person or entity who acts for the benefit of ..................................................................................... and on behalf of another person or group
Fiduciary management................................Often used to mean the same as “delegated investment.” ..................................................................................Sometimes restricted to de-risking strategies
Flight plan........................................................ A long-term tailored investment plan that typically ............................................................... incorporates trigger points for de-risking the portfolio as ...................................................................................................................funding levels improve
Flight path..................................................................................................... See flight plan above
Frozen scheme................................................... A pension scheme that is closed to future accruals
I
Implemented consulting . ......................................... Often used to mean “delegated investment” ...........................................................................Sometimes used to describe a relationship where ............................................................trustees delegate implementation but not decision-making ......................................................................................................................... to their consultant
Investment consultant.................................... An advisor on investment strategy and the selection ...................................................................................................................................of managers
Investment Management Agreement (IMA)... The IMA is a legally enforceable agreement between ............................................... investment managers or delegated providers and pension schemes
8
J
Journey plan............................................... See flight plan above.
L
Liabilities....................................Obligations to pay, e.g. pensions
Liability-driven investment................. A framework for managing
assets in a way that reflects liabilities,
e.g. a bond portfolio that produces cash flows that match expected pension outflows
Longevity.............................................................Life expectancy
M
Manager selection............................The choice of fund manager
...............................................................best suited to invest a portfolio
R
Risk......................................................... The variability of returns
S
Stock selection...................... The selection of individual securities
......................................... e.g. equities and bonds for a portfolio
Swaps................... A contractual agreement allowing two parties
to exchange one stream of cashflows for another
9
CHECKLIST
20 questions to consider
Yes?
10
No?
1
Do we spend enough time on investment issues?
2
Do we make investment decisions too slowly?
3
Are our investment decisions implemented promptly?
l
4
When our consultant’s view of a manager changes, do we switch
managers quickly enough?
l
5
Have we missed investment opportunities through slow decisionmaking or implementation?
l
6
Do we deal with complicated investment issues?
l
7
Do we feel comfortable using derivatives to control risk?
8
Could we deal with complicated investment issues better than we do?
9
Do we spend more time on strategic investment issues than we spend
on day-to-day investment issues?
l
10
Do we invest in as many asset classes as we would like?
l
11
Do we have time to devote to more asset classes and more managers?
l
12
In respect of our flight plan, do we make changes quickly on hitting
trigger points? Or, if we were to adopt a flight plan, do we know how
quickly we would be able to make changes on hitting a trigger point?
l
13
Is our scheme big enough to justify appointing an in-house chief
investment officer?
l
l
l
l
l
Yes?
No?
14
Are market indices our primary benchmark for measuring investment performance?
15
Do our regular investment reports provide a clear, unified view of the whole portfolio?
l
16
Do we monitor risks as often as we would like?
l
17
Does the portfolio benefit from bulk discounts?
l
18
Have we delegated stock selection?
l
19
Have we outsourced administration?
l
20
Would we like to know more about delegated investment?
l
If any of your answers
are in a red box please
call 020 7086 9352 for more information.
l
2012 Aon Hewitt
Delegated Investment
Survey
2012 Aon Hewitt Delegated Investment Survey is
Aon Hewitt’s third large survey on delegated
investment
and
covers
the
views
and
experiences
of
329
trustees
and
other
stakeholders. It also provides commentary on the
findings by Aon Hewitt’s experts. If you would like a
copy of the survey findings, or to learn more about
Aon Hewitt’s Delegated Consulting Services,
speak to your usual Aon Hewitt consultant, go
to
aonhewitt.co.uk/delegatedconsulting,
email
[email protected] or call 0800 279 5588.
11
Disclaimer
Copyright © 2012 Aon Hewitt UK
Aon Hewitt Limited is registered in England & Wales.
Registered No: 4396810.
Registered Office: 8 Devonshire Square, London, EC2M 4PL.
Nothing in this document should be treated as an
authoritative statement of the law on any particular
aspect or in any specific case. It should not be taken
as financial advice and action should not be taken as
a result of this documentation alone. Consultants will
be pleased to answer questions on its contents, but
cannot give individual financial advice. Individuals are
recommended to seek independent financial advice in
respect of their own circumstances.
12
About Aon Hewitt
Aon Hewitt is the global leader in human resource
consulting and outsourcing solutions. The company
partners with organisations to solve their most complex
benefits, talent and related financial challenges, and
improve business performance. Aon Hewitt designs,
implements, communicates and administers a wide
range of human capital, retirement, investment
management, health care, compensation and talent
management strategies. With more than 29,000 professionals in 90 countries, Aon Hewitt makes the world a
better place to work for clients and their employees.
For more information on Aon Hewitt, please visit www.
aonhewitt.com.
This Guide was first produced in association with Engaged
Investor in 2011 and has been updated and reproduced
by Aon Hewitt.