London Pension Rejects Divestment Demand | Chief Investment Officer

The London Pension Fund Authority (LPFA) will not actively divest from fossil fuels despite pressure from the government of the UK capital.

A report from the London Assembly last month urged the LPFA to consider “managed divestment” from fossil fuels in an effort to reduce the city’s environmental impact.

“We do not expect fund managers to specifically invest or divest in certain sectors, but they are expected to take a responsible investment approach instead.”However, in a letter to members, the £4 billion ($6.2 billion) pension said its existing environmental, social, and governance (ESG) and responsible investment policies were sufficient to “result in long-term benefits”.

“Consequently, we do not expect fund managers to specifically invest or divest in certain sectors, but they are expected to take a responsible investment approach instead,” the newsletter stated.

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The LPFA has less than 1% invested in fossil fuels, the letter said.

“It is important to note that, over time, this figure will change as we invest and divest,” it added. “However, our key aim must be to ensure we can continue to pay your pensions as they fall due.”

The pension also explained that its responsible investment stewardship group, led by CIO Chris Rule, regularly reviewed and reported on voting policies and communications with fund managers over ESG issues.

“As a pension fund we have a fiduciary duty to make investments where we see the best return for our employers and members,” the LPFA said.

The LPFA’s stance reflects that of California’s two leading public pensions, which last year were told to divest from coal producing companies by Senator Kevin de León. The California Public Employees’ Retirement System said it preferred to engage with companies rather than sell indiscriminately, while the California State Teachers’ Retirement System has been increasing its investments in clean technology.

The US Securities and Exchange Commission’s (SEC) Wells notice to PIMCO over valuations points to market-wide problems with fixed-income valuations, according to Morningstar’s top specialist.

The Newport Beach-based bond house revealed Monday that SEC staff intend to recommend action against the firm for allegedly inflating mortgage bond values in its Total Return Active ETF.

“The broader fixed-income pricing issues at hand are neither unique to PIMCO nor intrinsic to ETFs.” —Michael Herbst, MorningstarWhatever the investigation reveals about PIMCO, Morningstar’s head of fixed-income manager research has argued that it shows the potential consequences of market illiquidity, manager leverage, and standard bond trading practices.

“Without more information, we can’t speculate whether PIMCO acted appropriately or inappropriately,” wrote Michael Herbst in an analysis published Thursday. “But we do know that the broader fixed-income pricing issues at hand are neither unique to PIMCO nor intrinsic to ETFs.”

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The daily value of an ETF like Total Return Active—a tracker to PIMCO’s flagship fund—partly depends on assets vastly less liquid than their vehicle, Herbst pointed out.

When PIMCO’s traders bought the small batches of mortgage-backed securities they’re under scrutiny for, the price may have reflected the awkward lot size and seller’s circumstances as much as the underlying value of the assets. Repacked by PIMCO (or any other large bond manager or asset owner) and free of external pressure to sell, Herbst noted that the same securities would be worth more.

Finding those opportunities is part of what makes a great fixed-income manager. But in his view, it also makes for hazy valuations and compliance vulnerabilities.

“It’s very plausible that an asset management firm with any bargaining power (and PIMCO by reputation is a fierce negotiator) could offer to take odd lots of less liquid nonagency mortgage-backed securities off a dealer’s hands for a discounted price, or that a dealer looking to get those securities off its books or curry favor with PIMCO could make those securities available to the firm at a discount,” Herbst wrote.

Whether those factors were or weren’t at play in the Total Return ETF transactions has not yet been revealed. Either way, he argued, trading and pricing in the fixed-income market are such that they certainly could have been.

And while the SEC has (for now) singled out PIMCO for scrutiny, its competitors have faced the same confluence of illiquidity and lot-dependent pricing that invites flexible valuations into a rigidly regulated sector.

Herbst and his colleagues haven’t changed their view on PIMCO, which Morningstar last rated neutral overall, with a C for stewardship.

“There is nothing definitive about a Wells notice,” he concluded. But for managers playing in the same market, there is definitive reason to watch how the SEC views their behavior.

Read Michael Herbst’s entire post: “PIMCO Put on Notice.”