It’s Expensive To Save Money

Ashby Monk

Over the weekend, I saw an interesting article by Pauline Skypala in the Financial Times on managing costs within a pension fund. Here’s a quick blurb to pique your interest:

“The fund management industry is mostly run for profit – for the owners rather than the investors. The owners of fund groups are virtually guaranteed a profit; the investors with them enjoy no such guarantee.

The article is entitled “How to cut costs in running pensions.” And so, you must be wondering, how exactly does she suggest pensions should cut costs?

The answer: bringing assets in-house. (Yes I know; I’ve written on this topic ad-naseum. But let’s just go with this for a second.) To make her case, she draws on an interview she conducted with Chief Executive of OMERS Michael Nobrega:

“Omers, the Canadian pension fund that looks after municipal workers in Ontario, calculates that for every $1 it spends on internal investment management it makes $25; if it employed external managers that figure would drop to $10…All but 15 per cent of the fund’s C$53bn ($55bn) of net assets are run in-house. External managers are employed to access markets where the fund does not have personnel on the ground, such as some in Asia…”

And Pauline Skypala concludes:

“Large scale plans run on a not-for-profit basis with in-house management are undoubtedly the cheapest way to look after people’s retirement savings. Governments keen to help their citizens build their own pension pots should take note.”

Agree to agree, Ms. Skypala, about the benefits of running assets in-house. There are lots of potential cost savings. And the data from OMERS is quite compelling in this regard.

But (!) the decision to bring assets in house is totally dependent upon the fund’s internal governance. If the fund can’t actually muster a sophisticated asset management program in house, then it really shouldn’t be trying. So, the first step of “saving money through in-sourcing” should be “spending money on operational and governance upgrades.”  And, actually, the prequel to that step one should be “securing buy in from the sponsoring authority to spend a lot of money on internal operations.” In my experience, it’s the prequel that poses the biggest problem and puts people off to the whole shebang (…just like Star Wars…). For example, I know plenty of funds that have a lot of internal flexibility when it comes to investing but very little flexibility when it comes to hiring talent.

So, generally speaking, when thinking through the necessary governance components for a move in house, I focus on the People, Process and Politics.

  1. People: Direct investors must be able to attract, motivate, and retain talented individuals with the necessary skills and competencies for managing a modern financial institution. Talent or human capital is paramount for success in financial markets and arguably in modern economies. However, doing this tends to be quite challenging. Since sovereigns and public pensions are governmental, these organizations have to find ways to fill public sector jobs with individuals that can compete in and with the private sector. This requires innovative compensation policies and structures.
  2. Process: Direct investors also require highly developed decision-making frameworks and risk mitigation capabilities in order to manage the complexities of investing. Success is a function of how decision-making is framed, routinized, and implemented. Scholars have recognized the importance of governance for institutional performance for many years. Research has also unequivocally demonstrated a correlation between ‘good’ investment governance and positive financial returns. Innovation in governance is particularly important in overcoming inherited institutional and organizational features, which helps to ensure functional performance.
  3. Politics: Direct investors have to be able to manage the impact that politics can have in the investment decision-making process. To suggest that public funds can be entirely apolitical is, in my view, naïve. Every public fund is the product of a political decision. And yet, close ties with policymakers can be damaging to returns if these relationships distort the investment decision-making of skilled professionals. Indeed, research in a rather different domain shows that political influence can lower the financial returns of government pension funds. Also, the political angle extends to the “buy in” that these funds have to receive from their masters for a sophisticated investment program. Consider this: a successful infrastructure investor might need to conduct due diligence on 100 deals for every 10 investments; can a government stomach spending tens of millions on the 90 opportunities that lead “nowhere”?

All this is to say: Yes, institutional investors can save money by bringing assets in house. But they can lose a lot of money as well if they don’t first invest in the people and process while managing the political intrusions and securing political buy in!

3 Responses to “It’s Expensive To Save Money”

  1. 1 Pauline Skypala August 2, 2011 at 6:21 am

    The FT article you refer to did say Mr Nobrega of Omers pointed to his ability to hire investment professionals on the same terms as commercial firms as being crucial to the fund’s ability to manage investments internally. It did not ignore the governance aspects.

  2. 2 Ashby Monk August 2, 2011 at 6:26 am

    Thanks for your comment and clarification! Yes. I see you’re right. You did raise the compensation piece. That’s key…even if there’s more to talk through in terms of process and politics. But thanks for keeping me in check! Cheers. Ashby

  1. 1 Who’s a Better Investor: David or Goliath? « Oxford SWF Project Trackback on August 2, 2011 at 9:57 am

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out /  Change )

Google+ photo

You are commenting using your Google+ account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )


Connecting to %s


This website is a project of Professor Gordon L. Clark and Dr. Ashby Monk of the School of Geography and the Environment at the University of Oxford. Their research on sovereign wealth funds is funded by the Leverhulme Trust and The Rotman International Centre for Pension Management.

RSS Feed


Enter your email address to subscribe to this blog and receive notifications of new posts by email.

Join 370 other followers

Latest SWF News

Visitors Since August 2010

%d bloggers like this: