The City vs Mayfair vs Canary Wharf over pensions

What matters most to hedge fund managers who have negotiated the $100m break-even, is percentages. The billion or $2bn mark is nice to breach but it's a monthly percentage game in the main. However, in London, another percentage game could be about to play itself out, if pension consultant Phil Irvine from Liability Solutions is right in his forecast. His is a prophecy of the difference between percentages of pension fund portfolios hedge fund managers could win, via selection by firms such as Liability Solutions for a shortlist, and then via selection by the trustee in beauty parades. The difference is between getting a piece of 3%, 5% or at most 10% of pension assets, as timid trustees dip their toes in hedge fund waters - or 100% as a new paradigm emerges.

In April, Highway Insurance announced its enlisting of Schroders to manage 100% of its £80m pension fund money. A small amount in absolute terms, admittedly, but 100% of it. Read it and weep - or ponder. As Irvine explains, it was Schroders' ability to pull together a solution for the pension fund, mixed admittedly with careful explanation and education by its consultants of its trustees. (Highway having already acknowledged hedge funds had been a success for its insurance portfolio admittedly didn't hurt either).

But Schroders' solution was not a hedge fund product, nor even purely a hedge fund-based solution. It was the ability to pull together three parts of its business - alternative asset management, traditional funds and a swaps/derivatives expertise to manage Highway's assets, and take responsibility for monitoring Highway's pension liabilities. It is the latter, it could be argued, hedge funds have historically lacked the willingness (mettle?) to do. Schroders will hedge towards 100% of Highway's future liabilities at the right time and right price, not all at once, explains Irvine, as well as manage the schemes' open-architecture asset allocation.

Yes, hedge funds form part of Highway's solution, but not all of it. But it was partly Schroders' history with absolute returns that won them the mandate.

However, here's the hitch for the present set-up of hedge funds, in London at least. Absolute-return, hedge fund expertise lies largely west of its West End, in St James's and Mayfair. Swaps and pure derivatives expertise lies firmly in Canary Wharf, about six miles to the east. (Highway found a happy geographic medium, and expertise in each of the West End and the City, in Schroders.)

Shall never the twain meet? Not necessarily. Firms such as Key Asset Management (Brook Street, so Mayfair, so hedge funds) are already linking up with companies such as Barclays Capital (Canary Wharf, so with a long history of swaps/derivatives dealing) to provide solutions to pension funds who want to put more than the standard 5% in hedge funds or complex-instrument-based strategies.

It will require great forward thinking from pension funds in how they view their pension member liabilities and portfolio assets. It will also demand rethinking from hedge funds - with whom can or should they form alliances, which of the three skills do they lack the most, is it feasible for them to establish swaps/derivatives expertise, or indeed buy traditional managers. Is it best to equip themselves with most or all of the three key skills?

If Irvine and a smallish group of hedge funds are right, and enough pension funds see their peers succeed handing assets and liabilities to those better placed to manage them, then just having hedge funds - even institutional-strength, low-volatility, conservative portfolios - may win you 5%, but it won't get the big percentage mandates from the pension prime movers.

You will need the full bag of clubs to play rounds with the likes of Highway's pension fund, and forward-thinking management - but that is exactly what hedge fund firms have always been known for.


While it is neither our style nor place to trumpet our cutting-edge reportage, our feature in April on pension funds' assets and liabilities potentially being bought up (not just managed by) by hedge funds has come to pass, in one sense at least.

Despite commentators' reticence to say it was feasible or probable, Eton Park, the hedge fund overseen by Goldman Sachs alumnus Eric Mindich, is a key financial backer of Paternoster Ltd, founded by ex-Prudential head of assurance, Mark Wood. While our commentators' comments do still stand - that many hedge funds may love the assets but fear the liabilities, and shy away from troubled pension funds' schemes - Eton Park and a number of European competitors believed to stand silently beside it as private equity backers, have got as close to buying the liabilities and assets of pension schemes as they can, by backing someone who will. Yet more proof that hedge funds have their finger in every pie - as, may we be so bold, does Hedge Funds Review.

Mark Wood has enough on his plate having raised around £500m, to be able to buy up between £4bn-£5bn of liabilities which, after two years of managing in association with the pension fund, become Paternoster's to run. However, he did not rule out further fund raising for further activity. And he describes hedge fund-private equity backers as "perfect partners" - just so you know.

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