Agenda item

The Committee received an update presentation from Jason Wood and Mark Davies of River and Mercantile on the Equity Protection Strategy.

In the ensuing debate, the following points were made:

·         Jason Wood indicated that as the Equity Protection Strategy was half way through the contract period, it was an appropriate stage to consider how it was progressing. Although no action was recommended at this stage, the Committee might wish to amend the Strategy prior to its date of maturity

·         Philip Hebson commented that at some point a decision would need to made about the future approach to equity protection and whether it would be appropriate to enter the active equity market

·         In response to a query, Mark Davies suggested that in the event of a major market fall, the strong funding position of the Fund could provide an opportunity for re-investment in equities market

·         Philip Hebson explained that although there had been a recent fall in markets, they had only fallen to a level slightly below the original starting point. Mark Davies added that most pension funds would be concerned about a fall in markets. Even if the market rallied, there would remain concerns and the asymmetry factor (in other words as the performance neared the cap, the risk/return balance was out of kilter) became more important because of the exposure to market forces at that point

·         Mark Davies explained that there remained enough upside and reasonable protection within the strategy so that no action was needed at present. The staff at River and Mercantile monitored the performance of the Strategy on a daily basis, taking into account the asymmetry factor, the market factor and the replacement strategy factor. The Fund would only be contacted when it was considered that a restructuring of the contract could be beneficial

·         What would be the cost to the Fund of withdrawing from the contract with River and Mercantile before the date of maturity? Jason Wood explained that there would be a market trading cost of around 5 – 15 basis points. This was a market charge not a fee to the company

·         Michael Hudson commented that the Committee needed to weigh up the benefits of adopting equity protection against the Fund's appetite for risk as it entered the next phase after the maturity date for this Strategy. The date of maturity for this particular Strategy had been planned to coincide with the forthcoming Triennial Valuation. Mark Davies emphasised that the equity protection product could be tailored to meet the needs of the Investment Strategy of the Fund

·         In response to a query, Michael Hudson indicated that this Fund was one of only two funds in LGPS Central who had taken out some form of equity protection. The key issue for the Fund to determine going forward was whether it wanted long or short term protection. If the Committee deemed that some form of equity protection was necessary, a decision would need to be made as to the form of equity protection tool required and whether the existing tool should be reviewed. Mark Davies added that the strategy needed to focus on protection of funding levels rather than market performance

·         In response to a query, Michael Hudson explained that the Fund's actuary would base their view on the performance of the Fund with particular reference to the approach taken to equity protection. Philip Hebson added that at a recent presentation by Mercers, the Fund's actuary, reference was made to the adoption of either a single option strategy or a dynamic strategy. The Fund had adopted a single option strategy with a time line leading up to the Triennial Valuation. The question would be whether to move to a more dynamic strategy. Some dynamic strategies required officers to take active market decisions on a monthly basis thereby effectively operating an active management role which he considered to be too complex

·         The Equity Protection Strategy was a means of minimising actuarial risk. However if the markets performed well then the Fund could be missing out on large amounts of upside. There was a view that global growth would continue and the Fund should be cautious of making short-term decisions. It would be appropriate to review the performance of the Strategy in February/March 2019

·         The Equity Protection Strategy had been adopted for the right reasons however it was not indefinite and any future decision should take into account the impact of inflation

·         Philip Hebson explained that it was possible to pay for an insurance premium to allow the Fund to keep the upside but that would be at a significant cost

·         The Fund was approximately 95% funded therefore it would seem beneficial to continue with a strategy that maintained a fully funded scheme to give employers a degree of assurance about contribution rates over a longer period. In response, it was commented that although the interests of employers should be borne in mind, the interests of the Pension Fund should be the key driver for the Strategy. Michael Hudson added that there was a danger that a 'comfort blanket' approach to consolidating the current funding levels for the Fund would fail to expose the Fund to market risk at a time when a more riskier growth strategy could be more beneficial.  The Committee needed to review the Strategy at both its March and June 2019 meetings to determine its risk appetite and the strategy it wished to pursue

·         In response to a query, Philip Hebson advised that the Fund did not want to be in a position where employer contributions had been reduced as a result of a high funding level but subsequently needed to be raised again as circumstances changed. It was important to achieve a balance between risk appetite and investment returns in whatever strategy was adopted.     

RESOLVED that the presentation provided by River and Mercantile on the update to the existing Equity Protection Strategy and potential future options be noted.