(May 21, 2014) — Allocating to core active equity funds could be costing pension schemes as much as £1.7 billion a year, according to research into “closet indexing” by consultancy firm Aon Hewitt.
The company claimed three quarters of schemes’ active equity allocation—roughly £460 billion—is sitting in “core active” funds that rarely differ from their benchmarks, even though they charge full-fat active management fees.
Aon Hewitt said this meant £350 billion of assets—or 17.5% of the £2 trillion of UK pension scheme assets—were delivering “sub-optimal returns”.
Announcing the results of its research, the consultancy argued that if “core active” funds either cut their fees by 0.5 percentage points or improved returns by the same amount, it would add £1.7 billion a year to the UK’s total pension assets.
This latest research hitting out at so-called ”closet trackers” comes after the UK regulator, the Financial Conduct Authority, has been scrutinising fund management charges since it came to power in April 2013. Earlier this month it criticised fund managers for operating complex and opaque fee structures.
John Belgrove, senior partner at Aon Hewitt, said schemes willing to pay for active management in order to beat their benchmarks “must be willing to take risk and follow a broad, unconstrained strategy”.
But schemes with a preference for passive equityfunds “should also check that they are achieving the best possible performance”, said Belgrove’s colleague and Aon Hewitt Partner Tim Giles.
Giles argued in favour of “a smarter approach” to passive allocation, using “alternative indices” as these had often produced better risk-adjusted returns in the long term.
Earlier this month the UK’s local government pension schemes were asked to consider proposals to move some or all of their assets out of active management to passive strategies, which consultancy firm Hymans Robertson said could save the 89 schemes as much as £230 million a year. This was after Hymans Robertson had found “no clear evidence” that the active equity allocation of the Local Government Pension Scheme had helped it outperform the market in the long term.