27 November 2023

Getting the most out of LGPS funds

Getting the most out of LGPS funds  image
Image: bleakstar / Shutterstock.com.

Isio partner and Public Services leader Steve Simkins reflects on the Chancellor’s Autumn Statement announcement of a surprise target to ensure all Local Government Pension Scheme (LGPS) funds are invested in asset pools of £200bn or more by 2040.

The Local Government Pension Scheme (LGPS) has found itself in the spotlight in 2023. Not because of the great pensions it provides to over six million people or its rude financial health, but because of its assets. With over £350bn of assets in England & Wales alone it stands out as a very meaningful fund, one which has caught the eye of the current Chancellor.

This summer, the Chancellor announced in his Mansion House speech his intention to unlock some of the UK’s pension scheme assets for the purpose of ‘productive finance’ for the benefit of the UK economy. He has plans for each of the three main chunks of assets – trust based defined benefit schemes, individuals’ defined contribution schemes and the LGPS.

Of the three, the LGPS might be considered easy pickings for the Chancellor. After all the scheme is run by the Department for Levelling-Up, Housing and Communities (DLUHC), primarily for Government funded and council tax raising local authorities. But it’s not quite that simple, as there is no legal crown guarantee for benefits, and there are many other employers in the scheme too.

In the Mansion House speech, a consultation was launched proposing that 10% of the LGPS’s assets are invested in private equity and 5% in levelling-up initiatives. The consultation response, published with the Autumn statement, demonstrated general disagreement on both counts, but the Government is pressing on regardless, insistent that nothing will be mandated, only monitored.

There was also a bolt out of the blue in the speech itself – the suggestion that by 2040 the LGPS pools (the eight entities set up for efficient management of the assets) should be at least £200bn. This caused a lot of head scratching, until we dug deep into the notes to see that the Government Actuary’s Department reckons LGPS assets will be over £900bn by then – meaning four or five pools at the most.

My reaction to the Mansion House speech was that the LGPS is a pension scheme and not a sovereign wealth fund. It doesn’t just have assets it has liabilities, and with liabilities comes a fiduciary duty. If the Government dictates the asset strategy, it needs to take responsibility for the liabilities. Dabbling in the assets could quickly become problematic.

If the Government wants a sovereign wealth fund, using LGPS assets, it could do this, but it would have to do it properly. It would be hugely challenging exercise with major legacy issues to resolve, but it would result in an unfunded LGPS, akin to the public pension schemes for nurses, teachers, and civil servants. Benefits would have to be crown guaranteed. It is not clear whether Government has fully thought this through – but maybe this year’s announcements are part of a warm-up act with the £900bn in mind?

The focus on the long-term and trying to squeeze some more productive finance out of the LGPS is ignoring both the reality and the short-term opportunities. At the last actuarial valuation for the England and Wales funds in March 2022 the LGPS was in a healthy surplus. Since then, there has been remarkable and unexpected improvement in funding as a result of the huge gilt yield increases. This has created what can reasonably be described super surplus. The LGPS has up to £100bn more surplus assets than it planned.

This raises the question – would it be better to reclaim the surplus assets rather than try to force a small proportion of them to be invested in productive finance through layers of profit-taking third parties? In reality, there is no legal mechanism for surplus assets to be returned to employers who continue providing LGPS benefits. But there is step that could be taken and that it is to turn off the flow. Around £7bn a year of local authority contributions are currently increasing the surplus. This is much more than councils’ stated funding gap of £4bn over the next two years and the amount that could transform children’s services, for example, which are said to be on the brink.

Employer contributions don’t need to be switched off, but can they be dialled down? Not until 1 April 2026 in England & Wales – it is a very different picture in Scotland with the valuations underway now – is the stock answer as actuarial valuations only take place every three years. But new provisions were recently introduced to allow LGPS funds to change employer contributions at any time. Unfortunately, they didn’t envisage the type of systematic market change we’ve seen over the last 18 months and so the answer is not clear cut.

However, the logic is clear – that super surplus assets in the LGPS should not be held at the expense of council taxpayers and our communities in need of vital local authority services. There comes a point at which LGPS schemes being too cautious becomes risky and I hope that those in Government who are responsible for our communities take an holistic view and make every effort to do the right thing. This could be productive finance at its finest.

For more background see: Autumn Statement: Hunt announces surprise LGPS plan.

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