Britain’s largest pension scheme to invest billions in private companies in boost for savers

Britain’s largest pension scheme will start investing billions of pounds in private companies in a boost to Jeremy Hunt’s plans to deliver higher returns for savers.

The National Employment Savings Trust (Nest), which looks after the retirement funds of a third of the British workforce, said it will invest up to a fifth of pension pots into high growth companies over the next decade.

Writing in The Telegraph, Mark Fawcett, Nest’s chief investment officer, said the move will offer most of its 12 million members the chance to enjoy “significantly higher” returns, with the risk spread over several decades.

He said: “We plan to step up our investment into private markets over the coming years, including more money into unlisted equities.

“Our view is simple – we don’t want Nest members missing out on an asset class which is so highly sought after.”

Mr Fawcett said Nest, the UK’s largest workplace pension scheme by members, would invest up to a fifth of younger members’ pension pots in private companies, which typically carry greater investment risk but can generate higher returns than publicly listed equities.

The policy is a significant vote of confidence in the Chancellor’s ambition to ramp up risk taking by pension funds to boost future retirement incomes.

Mr Hunt put pension reform at the heart of his Mansion House speech in July. The Chancellor wants the UK to rival countries including Australia and Canada that are home to huge pension schemes that invest in illiquid assets around the world, including in British infrastructure.

The risk-taking has led to higher rewards. Average annual pension fund returns in the UK were 9.5pc in 2021, according to Moneyfacts. This compares with a 20.4pc gain by the Canada Pension Plan Investment Board and 22.3pc increase delivered by AustralianSuper for the same year.

Defined contribution (DC) schemes like Nest promise a pension income based on the performance of stocks, bonds and other investments rather than a promise from an employer to sustain a certain level of income in retirement.

In July the Chancellor told an audience of bankers and finance bosses at the annual Mansion House dinner that nine of Britain’s biggest DC providers had signed a compact committing to invest at least 5pc of assets in unlisted equities by 2030.

Nest’s ambition to commit up to a fifth of assets for younger savers goes well beyond this. Mr Fawcett said there was “an especially large capacity to invest in these asset classes for our younger members,” who are decades away from retirement.

He said: “Those members have much greater ability to hold long-term illiquid assets compared to members approaching retirement, particularly when there are some assets which can be held in portfolios for decades.”

He added that “in the not-so-distant future” this could mean “a Nest member 40 years from retirement could have up to 20pc of their pension pot invested in unlisted equities”.

It is understood that Nest’s overall investment in unlisted equities, including private equity and infrastructure, will climb to at least 10pc of its portfolio by the end of the decade, potentially funnelling an extra £10bn into high growth assets.

Nest, which is publicly owned but operationally independent currently manages just over £30bn in retirement pots. This is forecast to balloon to £100bn by 2030. Mr Fawcett said this would give Nest the “size and scale to negotiate great deals” across a range of asset classes.

Mr Hunt has claimed that his compact with pension funds could help to boost retirement incomes by over £1,000 a year for a typical earner over the course of their career.

The Chancellor said: “British pensioners should benefit from British business success.

“This also means more investment in our most promising companies, driving growth in the UK.”

However, the Government’s own internal modelling suggests the very high fees charged by private equity firms could erase returns for pension savers.

High performance fees could even leave savers who invest in private companies £1,300 worse off, Department for Work and Pensions analysis showed.

Mr Fawcett insisted Nest did not pay performance fees “as a point of principle”.

He added: “All investment fits within our existing fee structure. This competitive fee structure also increases the probability that any net investment returns will meet our objectives.”

Why we’re investing Britain’s pension pots in solar farms and fish and chip shops

By Mark Fawcett, chief investment officer of National Employment Savings Trust (Nest)

The Chancellor’s Mansion House speech back in July generated a lot of interest within the pensions industry. Particularly the signing of the Compact by major UK defined contribution (DC) investors to commit 5pc of their portfolios to investing in unlisted equities.

There are questions from some quarters about whether UK DC schemes could, or even should, be investing in unlisted equities.

As a signatory to the Compact, our view is simple – we don’t want Nest members missing out on an asset class which is so highly sought after.

There’s a good reason private equity features in large pension schemes around the world. Average historic returns in private equity, broadly speaking, have been significantly higher than for listed equity over most time horizons.

At Nest, we’ve considered a wide range of factors and data to support our decision to invest in private equity because clearly, if we can achieve at least the average return, this will enhance the scheme’s total returns.

We’ve focused on growth-stage firms, as well as small and mid-cap buyouts, as these are the areas which we believe will deliver the highest risk-adjusted returns.

Since 2022, when we started investing in private equity, we’ve put money into a range of companies across industries.

One example is Captain D’s, a chain of seafood restaurants bringing a soul food take on the British classic of fish and chips for its American culinary audience. It’s been operating for 50 years but last year looked for further investment to help continue expanding its business.

Another deal Nest entered is in Sekhmet, the Indian pharmaceutical company, which is one of the world’s largest suppliers of generic drugs. Both very different companies, but both exciting investment opportunities.

Private equity assets bring an attractive combination of less volatile valuations and higher expected returns than their liquid counterparts. This combination is naturally desirable for any long-term, institutional investor.

We’ve also used our size and scale to negotiate great deals. As a point of principle, we don’t pay performance fees and all investment fits within our existing fee structure. This competitive fee structure also increases the probability that any net investment returns will meet our objectives.

The only difference our members should notice, now we’re investing their money into unlisted equities, are better risk-adjusted returns over the long term.

That’s why the debate of whether DC schemes should be investing in unlisted equities is somewhat over, or should be, provided those schemes have the scale and expertise to access good deals. The path ahead for growing UK DC pension schemes includes illiquids.

The conversation should be moving on to how best to include unlisted equities within a portfolio.

Having access to private assets is one thing, but can investment strategies be designed to maximise the benefit passed onto our members? Asset classes like private equity are still more expensive than their public market equivalents and it’s essential to select the right asset managers to ensure we generate value for money.

We think there’s an especially large capacity to invest in these asset classes for our younger members. Those members have much greater ability to hold long-term illiquid assets compared to members approaching retirement, particularly when there are some assets which can be held in portfolios for decades.

That opportunity is not just limited to unlisted equity. We think there are opportunities in other unlisted assets like infrastructure, not just in being hugely exciting investment assets but in how we can use them to connect with our membership.

Imagine telling a 22-year-old, who may be contributing into a pension for the first time, that when they start saving their money could be invested in infrastructure projects, like renewable energy – tangible assets they can see in the countryside around their home or just off the coast – for decades to come.

What a great message we can share with younger savers. That renewable energy will be powering their pension throughout their savings journey. A limitless source of energy making them money, while also increasing in value as we transition to low carbon economies.

Nest has recently updated its investment objectives and approach to strategic asset allocation. Within this is a new approach to better incorporate illiquids into our portfolio. We’ve evolved our investment glide pathway so younger savers have the highest percentage exposure, which then rebalances as they continue to save with Nest.

What does this look like in practice? That in the not-so-distant future, a Nest member 40 years from retirement could have up to 20pc of their pension pot invested in unlisted equities.

We plan to step up our investment into private markets over the coming years, including more money into unlisted equities. With our new investment objectives in place, we feel confident we can create the best outcomes for our 12 million (and growing) members.