13.5 THE MYNERS RECOMMENDATIONS AND THE MFR
Paul Myners was asked to carry out his review of institutional investment by the Chancellor in the 2000 Budget.
A consultation document was published by Mr Myners in May 2000 setting out the primary focus of the review which was to investigate whether there are factors distorting institutional investors' decision-making, encouraging, for instance, excessive dependence on industry-standard investment patterns.
Mr Myners subsequently wrote an open letter to Ministers in November 2000, setting out proposals:
- to replace the Minimum Funding Requirement (MFR) for pension funds with tougher checks on fraud and a regime of transparency and disclosure; and,
- to make a legal change to investment restrictions on pension funds, making it easier for them to invest in private equity limited partnerships.
The final report “Institutional Investment in the United Kingdom: A Review” was published by Mr Myners on 6 March 2001.
Principles of institutional investment
The central proposal of the review, closely modelled on the approach taken on corporate governance by the Cadbury (and subsequent) Codes, is a short set of clear principles of investment decision-making. These would apply to pension funds and, in due course, other institutional investors. As with the Cadbury Code, they would not be mandatory. But where a pension fund chose not to comply with them, it would have to explain to its members why not. Under the code, trustees would be paid but given additional responsibilities to set investment objectives specific to the fund and to consider all asset classes including private equity partnerships instead of simply judging fund managers in accordance with industry averages.
The review believes that it would be preferable for the industry to adopt the principles voluntarily, but is clear that if necessary the Government should legislate to require disclosure. It is recommended that the Government should examine after two years the extent to which the review's proposals have been successful in changing behaviour.
The main elements of the principles include:
- Trustees should set out an overall investment objective for the fund, in terms which relate directly to the circumstances of the fund, and not to some other objective, such as the performance of other funds.
- Trustees should seek separate advisers on investment and on actuarial matters.
- Fund managers should be given a written brief that sets out the timescale over which they are expected to perform
- Fund managers should by law be forced to intervene actively to improve the management of companies in which they have invested if this could improve investment returns
- It should be made easier for funds to invest in private equity partnerships and high risk ventures
- The attention devoted to asset allocation decisions should fully reflect the contribution they can make to achieving the fund's investment objective.
- Decision-makers should consider a full range of investment opportunities across all major asset classes, including private equity.
- The fund should be prepared to pay sufficient fees for actuarial and investment advice to attract a broad range of kinds of potential providers.
- Trustees should give fund managers an explicit written mandate setting out the agreement between them on issues such as the investment objective, and a clear timescale for measurement and evaluation. Fees paid to managers should include the costs of information, research or transactional services used by the manager. Fund managers contracts should include payments to cover research fees and brooking commissions, rather than these being charged to the fund, in order to cut the cost.
- In consultation with their investment manager, funds should explicitly consider whether the index benchmarks that they have selected are appropriate. Where they believe active management to have the potential to achieve higher returns, they should set both targets and risk controls that reflect this, allowing sufficient freedom for genuinely active management to occur.
- Trustees should arrange to measure the performance of the fund and the effectiveness of their own decision-making, and formally to assess the performance and decision-making delegated to advisers and managers.
- In defined contribution schemes, when selecting funds to offer as options to scheme members, trustees should consider the investment objectives, expected returns, risks and other relevant characteristics of each such fund. Where a fund is offering a default option to members through a customised combination of funds, trustees should ensure that an objective is set for the option, including expected risks and returns.
The review makes a series of other proposals. The main ones are:
- A legal requirement for trustees to be familiar with and have knowledge on the issues on which they make decisions, as in the US.
- The replacement of the Minimum Funding Requirement with a regime based on transparency and disclosure, as already put forward by the review in November 2000 (see below for further comment on this).
- Incorporation of the US ERISA principle on shareholder activism into UK law, making intervention in companies, where it is in shareholders' interests, a duty for fund managers.
- Surpluses returned to the employer should be taxed at a lower rate than 40%. This has already been acted on with the rate proposed at 35%.
- The Law Commission to be asked whether it can suggest greater legal clarity around the ownership of surplus pension fund assets.
- A follow-on review of capital and information flows relating to personal investment products.
The review also looked specifically at private equity. Investment in private equity should benefit from the framework set out by the principles and from the replacement of the Minimum Funding Requirement. The review has also made a number of proposals which take account of the special nature of private equity as an asset class for institutional investors, including changes to the maximum number of partners in a limited partnership and changes to the taxation of investments in limited partnerships. It also calls for the British Venture Capital Association to take action to improve transparency and disclosure about issues such as investment returns and compensation.
The review also looked at life insurance. It found that competition in the industry, though intense, tends not to focus directly on investment performance. This raises issues beyond the review's remit, but which need to be tackled if stronger incentives to efficient investment decision-making in the industry are to be created.