Fiduciaries – retain control

As an overstretched fiduciary, you can retain control through outsourcing a complex set of investment solutions.

Globally, this outsourcing trend has become increasingly popular. Andrew Rumbelow, Segment Head for the Sanlam Investments Institutional Business, unpacks what this phenomenon is, what its drivers are, and how well they apply to fiduciaries here in South Africa.

Known by various different names, ‘investment outsourcing’ or ‘CIO delegating’, they’re all designed to achieve the same thing: save fiduciaries time. The idea is to free you up from your governance and compliance burden so you can focus on your primary day job, while still retaining full oversight and control of the process.

Globally, enlisting the services of a professional investment services firm to manage the full range of fiduciary and associated portfolio management services on behalf of a retirement fund has become increasingly popular. In South Africa, this is more than just helping with asset allocation and manager selection decisions. It involves everything that will help trustees manage the full complexity of their fiduciary load more efficiently. This is particularly true of the constant vigilance and monitoring required to ensure the fund and its members remain on track towards their defined goals.

Fiduciaries are caught between their ever-increasing governance burden and simultaneous, rising complexity of capital markets. Not only must they ensure compliance with the investment mandate but also keep in line with regulation such as the King IV report on corporate governance, CRISA (Code for Socially Responsible Investing) and Regulation 28 of the Pensions Fund Act.

For most fiduciaries, this is an additional role layered on top of full-time careers. Current practice is for the pension fund’s investment committee or board of trustees to attend to these functions intermittently or once a quarter. However, for the reasons stated above, regular ongoing investment feedback needs to be provided and more frequent oversight demanded. The growing trend for medium-sized pension funds is therefore to outsource this service to free trustees up, alleviate them of the growing and time-consuming governance and compliance burden, and better fulfill their fiduciary duties. Outsourcing has effectively become the optimal platform to implement decisions quickly and effectively.

If we were to apply Pareto’s well known 80/20 principle to our industry, the 80-20 rule should help fiduciaries determine which operating factors are most important and should receive the most attention (and resources). Accordingly, resources should be allocated to those factors which have the most impact on a fund or company’s results.

Travis Pruit of the Investments & Wealth Monitor (IMCA) amplifies this message “A key objective for institutional funds is to properly leverage the organisation’s fiduciary governance approach by placing the authority for specific decisions with the entities best suited to handling them”.

Global firm PNC Financial Services (2015), provides insightful context for this trend. “The challenges confronting institutional asset owners, from an increasingly complex regulatory environment to soaring market volatility, have never been greater. Newer ways to control risk and keep costs down, while still achieving investment objectives, are being pursued by many institutional investors, particularly retirement funds”. According to Vanguard, there are various reasons why pension management has become so challenging, including the rapidly changing regulatory landscape, the wide range of investment options and strategies, and the growing fiduciary responsibilities of the plan sponsors. In a recent survey, 69% of outsourced firms reported that their clients engaged them due to insufficient resources. Staff struggled to respond adequately to the speed and complexity of the financial markets and regulatory changes.

According to Donald Stone of the Pavilion Advisory Group, if you are an investment committee member for a defined contribution retirement plan, you may feel the weight of responsibility for having to make decisions about tens or hundreds of millions of dollars of other people’s money. Outsourcing some of this responsibility to the experts is critical for supporting and bolstering the fiduciary and governance burden. It is also an effective way for “…under-resourced and overstretched fiduciaries to take back control through outsourcing a complex set of responsibilities” (Strategic Investment Group, 2014).

Under-resourced and overstretched fiduciaries can take back control through outsourcing a complex set of responsibilities.

Moreover, says Terry Group: “An investment strategy has a much greater chance of being implemented if the investment decision-making is outsourced to a professional firm…” The right kind of delegation will free up the investment committee from time-consuming decisions such as manager selection. Studies have shown that weighty committee decisions like these can detract from performance. With the right outsourcing arrangement, the committee can spend more time focusing on strategic oversight (source: Terry Group, 2014).

Global research has shown a connection between sound investment governance and investment success (Keith Ambachtsheer, award-winning pensions analyst and director of Rotman International Centre for Pension Management). In his book, “How Much is Good Governance Worth?” Ambachtesheer says closing the governance gap is critical because “good investment governance makes a big difference to value creation”. He suggests that the good/bad governance gap could be worth as much as 1% to 2% of additional returns each year.

Moreover, Roger Urwin – Global Head of Investment at Towers Watson – advocates a greater focus on governance and internal investment resources for pension funds as a hugely important area in institutional investment. Says Urwin, the investment world has changed irrevocably and the last ten years have added more complexity than any period in history. Greater regulation, product proliferation and greater competition for more effective investment strategies have complicated the decisions that funds have to face. These include how much risk, what types of risk, what types of return (absolute or relative), what types of strategy (mainstream or alternative, beta or alpha). But stepping back, the institutional fund must first get its mind around a higher level question: how much time and resource should be committed to governance and how this effort should be organised?

The answer, says Willis Towers Watson, lies in delegating responsibility for certain investment management functions. This way the plan sponsor may access expertise and skills that may not necessarily exist within the organisation. Importantly, delegation frees the plan sponsor to devote more time to strategy and to focus on high-quality oversight of their most critical responsibilities.

We believe there has never been a stronger case for this increasingly popular outsourced consulting model in the complex world of over-burdened fiduciaries, and a rapidly changing regulatory landscape. The above-quoted industry authorities speak for themselves and, indeed, South Africa is no exception.

As Travis Pruit succinctly puts it, in order to properly leverage the organisation’s fiduciary and governance responsibilities, the authority for specific decisions should rest with the entities best suited to handling them. The organisation or trustee can still retain full control and oversight of the process; it does not mean giving up full control. It is simply outsourcing whichever aspects suit you to free you up to focus on the most important aspects of your day job.

Antony Barker, Managing Director and Chief Pensions Officer for award-winning UK pension scheme, Santander, was recently quoted as saying “For smaller pension funds, the outsourced investment model is definitely the way to go. Strategy might be the greatest long-term driver of returns, but how you implement that strategy is ever more crucial in an increasingly low-return environment such as ours”.

If you do what you’ve always done, you’ll always get the same results. It’s that simple.