Written by:
Adam Thomas-Brown
Partner
Mentra Ventures
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When discussing investments aimed at driving economic expansion, creating employment, or fostering future innovations, the critical role of pension funds is frequently overlooked. This oversight is particularly notable in the UK compared to North American counterparts.
At the last annual reporting, the combined Assets under Management (AUM) for the Top 10 pension funds in the UK was £437.6bn, with the defined benefit Local Government Pension Scheme (LGPS) netting out at £369bn across England and Wales. Total Assets for all Pension Funds are estimated at c.£5 Trillion in the UK.
Despite recent economic pressures, the overall picture in Wales is one of explosive growth, with Wales’ 8 LGPS growing from £16.6bn in AUM to £23.3bn between 2020 and 2022. These funds play vital roles in propping up our listed equities and debt markets and without them, our economic system would lack much of the capital it needs to operate.
Yet, despite their significant potential, UK Pension funds have often been hesitant to invest outside of public markets and into strategic investments. Given the incredible growth in pension fund assets over the past two years, there's a pressing need to better align these resources with local economic investment strategies.
Importantly, this is not only out of the economic necessity: LGPS Scheme’s aim to provide their beneficiaries with better returns, with the geography of their beneficiaries and investments in mind during the investment process. Yet, investment under these strategies remain scarce. So, what factors contribute to the status quo that we are experiencing?
Well, for some schemes, illiquid investments like this are simply not on the table due to the scheme maturing before a 10 year VC fund. For others, the nature of Defined Benefit (DB) funds, requires that all future obligations be deliverable at all times, meaning that illiquid investments can fall outside what is possible. Finally, whether DB or Defined Contribution (DC), the cost of investing in private markets can deter PFs on account of value for investors.
Having said all of that, it’s hardly like there are no examples where managing risk and embracing this kind of local investment go hand in hand perfectly. In fact, the plethora of good examples suggests that it should be far more commonplace.
Greater Manchester’s LGPS is one of the largest local PF investors in the UK and outperformed the average LGPS return across by 0.5% per year since setup. Ranking third in 20, 25 and 30 year performance data, they have clearly embraced innovative strategies in management and have managed their risk, whilst deploying over £2bn go into private markets. This being their best performing asset class at the 1, 3 and 5 year level in 2022.
They also pool investments into Infrastructure and private markets with other funds near to them to achieve impact at scale, like the £300m Northern Gritstone fund for Manchester Sheffield and Leeds University spinouts. This would not have been possible with each of the 8 contributing LGPS operating individually, or at all with rigid frameworks for investment.
Most crucially of all for thinking about what we could do in Wales, is an up to 7% allocation for purely local investments. When local investment funds and their investees (as well as University Departments and Local Infrastructure) have been well supported in this way, it creates all of the necessary market conditions to achieve £2.6bn of investment into companies in the North West over the last 3 years.
Part of that £2.6bn was Manchester co-investing with the Clwyd Pension Fund in a regional private equity fund – resulting in two investments in North Wales.
They represent the clear outlier in Wales as investors who have recognised the strength of this kind of strategy, Investing in the Development Bank of Wales and being the 1 of 8 Welsh funds to consider local investing.
Strategically directed private equity and venture capital investments have the potential to significantly influence local economies and drive economic growth in crucial sectors. The Manchester Combined Authority has successfully expedited its regional strategy through such investments, demonstrating their transformative impact.
At Mentra, we think there is enormous scope for creating attractive and solid local investment propositions, across Wales. One such strategy, in Health, would be to create a HealthTech foundry with the thesis of building companies aimed at the NHS’s £bn problems. These kinds of approaches aim to merge financial returns with social value for our investors. Recognising this opportunity should mobilise a substantial influx of resources and support, enabling the full realisation of the potential held by these pension funds.
The approach taken by Manchester suggests that the issue often boils down to governance and leadership, all the more crucial at a juncture when we cannot afford to ignore such economic opportunities. Investors ought to collaborate with LGPSs to facilitate highly focused investments in sectors that align with the long-term strategic goals of Combined Authorities. Even modest initiatives in Wales could potentially attract hundreds of millions in investment into startups and the broader economy.
