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Active vs. Passive — A Look at Pensions in the U.K.

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In the past month, we have published two articles (here and here) on the state of investment management in the U.K. Continuing with that topic, we found another video from our friends over at Sensible Investing TV that puts yet another nail into the coffin of active management. The video is based on this report on local pensions in the U.K. by the Hymans Robertson consulting firm. Essentially, the authors made a very strong case for dispensing with active managers based on both performance and expenses.

The authors cited data from State Street Analytics which shows returns achieved by U.K. pension funds for the ten year period ending in 2011.


In only two regions did the active portfolios deliver a slightly higher return than the passive portfolios, but since these numbers are gross of fees, it is a virtual certainty that the net of fee active returns were lower in those two regions.

The valuable contribution of the Hymans Robertson report is its determination of the potential savings from switching over to passive management. Total asset management costs across the Local Government Pension Schemes were about $1.3 billion1 in 2012, or about 0.44% of assets (excluding turnover costs and performance fees on alternative assets). The authors estimate that $390 million could be saved annually by simply replacing actively managed funds with tracker (i.e., index) funds. Also, as a result of the lower turnover costs of tracker funds, the pension funds could expect a yearly savings of $323 million. Finally, an additional $408 million could be saved by using lower cost options for alternative assets. Specifically, the authors recommend reducing the use of funds of funds which have a double layer of fees. Adding up these three numbers yields a total annual savings in excess of $1.1 billion. While this will not solve the problem of chronic underfunding of pension liabilities, it is certainly a step in the right direction.

For us, this is all very reminiscent of the problems we have seen with state and local pensions here in the U.S. For example, North Carolina paid $416 million in disclosed fees to Wall Street in the 2013 fiscal year, which works out to about 0.77% of assets. Perhaps the bigger problem, however, was in the undisclosed fees such as the $13.4 million paid to Franklin Street Advisers for hedge fund performance incentive payments and trading costs paid to an affiliated brokerage firm that executed trades for that hedge fund. Please see this article for more details. Closer to home, we recently saw the ex-CEO of CALPERS admit to receiving six-figure pay-to-play kickbacks as cash stuffed into shoe boxes and paper bags.

Clearly, both we and our friends from across the pond have a lot more work to do in the encouragement of reform in the management of government pension funds. 


1All dollar amounts were determined by converting pound sterling amounts based on $1.70 per pound sterling.