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Din Britain take enough risk with his long-term savings? That might be a strange question to ask just months after “responsibility-led investing” (ldi). It is also inevitable. Despite the large sums of capital surrounding the British financial services industry, investment in domestic companies and infrastructure is very poor. It is tempting to look first at the biggest pots of money as sources of growth capital. But the most promising is one of the smallest.
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At first glance, capital seems to be the least of Britain’s problems. The oecd, a club of mostly rich countries, puts Britain’s pension savings at $3.6trn, second in size only to America among the 38 members. The City of London, although losing weight as a global financial centre, is still home to a group of world-class insurers, which manage around £2trn ($2.4trn, or 90% of gdp). Britain’s asset managers oversee investments worth £11.6trn and its banks have assets worth £8trn, placing Britain second and fourth globally for these sectors.
It may be hard to imagine Mayfair hedge fund managers rushing, overcome with patriotic fervour, to invest in social housing in Hartlepool or a science park in Portsmouth. But it is not so far-fetched to think that insurance and British pension savings could be used to drive domestic growth. Until relatively recently, they were: in 1998, 73% of British pension savings were invested in British assets. That proportion has fallen significantly since then. New Financial, a think tank, estimated in April that only 12% of the £6trn held by retail investors, pension schemes, insurance funds and endowments was invested in the British stock market. Less than 1% of pension and insurance funds were allocated to unlisted UK equities; 90% of the funds raised by venture and growth funds came from foreign investors.
The £1.5trn held by defined benefit (db) pension schemes, which provide members with a specific income upon retirement. In 2008 a quarter of the assets of such schemes were invested in British shares; by 2021 that had declined to 2%. This is largely because these funds no longer need to seek funds. Although underfunded for much of the time since the 2007-09 financial crisis, db Pension funds are now £375bn in surplus (see chart). Ten years of strong equity returns helped build their assets; an increase in gilt yields this year has improved the valuation of schemes. according to Pwcconsultation, the department’s assets are above their “buy-out value”, which would require the lump sum insurers to assume all liability.
Large surplus schemes have little incentive to invest heavily in equity at all. More specific and vague proposals, such as early-stage companies or infrastructure projects, are definitely off the table, regardless of their potential outcome. And even for those funds that are still in deficit, growth funds are now harder to invest in. Used by many ldi strategies to shed their liabilities, freeing up capital to invest in assets and other risky assets. The inherent leverage and potential for sudden collateral calls in these strategies brought some schemes close to collapse in the autumn, when gilt yields rose following Kwasi Kwarteng’s mini-budget on 23 September. Regulators are being pushed to maintain chunkier cash buffers, reducing their ability to provide growth capital. Increased conservation DB Perhaps the most lasting impact of Trussonomics is on pension schemes.
Newly announced reforms to Solvency II, rules governing the amount of capital British insurers must hold, could offer a better chance of driving domestic investment. Announced by the Treasury Department last month, these proposed reforms are insurer-friendly, reducing the buffer needed in case their liabilities rise. The Association of British Insurers, an industry group, said the reforms had the potential to unlock up to £100bn of investment. But allowing insurers to set aside less capital for future liabilities gives them many options: invest in British or foreign projects, or return money to their shareholders as shares or purchase money. Much of the £100bn will probably go elsewhere.
Perhaps the best source of long-term growth capital lies within a smaller pool of savings. Defined contribution (d.c) pensions, which are essentially individual savings accounts for each registered person, accounted for £500bn of savings in 2021. They are now the most common type of workplace pension and are ‘ grow quickly; DC assets should hit £1trn by 2030. Unlikely db schemes, d.c some do not guarantee a certain income when they retire. Instead, the value of each person’s pot determines how much they can withdraw or use to buy an annuity after they reach 55. That pushes them towards listed shares, although not necessarily towards Britain’s declining stock market.
With help, it could also encourage them to invest in unregistered ones. A 2019 study by Oliver Wyman, a consultancy, and the British Business Bank suggested that a 22-year-old entering d.c and by allocating 5% of it to a venture capital or growth equity fund they could expect to increase their total retirement savings by between 7% and 12% (compared to the mix of listed equities and bonds in a standard scheme). In practice, this is currently difficult or impossible for many schemes. A cap of 0.75% per annum on fund management fees, which was put in place to protect savers from external charges, limits them to less than most seeking venture capital funds. It also prevents the payment of additional fees to reward high performance, usually raised by that fund. a lot DC funds offer daily dealing, which is not appropriate for illiquid assets because sudden withdrawals can trigger fire sales.
These obstacles are not insurmountable. The Department of Finance has been exploring ways to increase the tax cap to drive investment in early stage companies and infrastructure. The Department for Work and Pensions, which previously opposed these efforts, is now consulting on how to implement them. d.c schemes tend to offer daily dealing not because of regulation or requirement, but because this feature was popular in the early days. By forcing them to invest in start-up companies and infrastructure, capital would inevitably flow to foreign investments as well as British investments. But retail savers show that they are increasingly interested in investing in causes that promise positive social outcomes. They may also get the opportunity to support domestic renovations. ■
