Pension Fund With $32 Billion Cuts Costs With In-House Experts

(Bloomberg) -- Britain's $32 billion railway pension scheme has halved the cost of running its biggest asset pool by moving investments in-house.

RPMI RailPen, which oversees the retirement assets of 350,000 British railway workers, pulled billions of pounds from hedge funds and other money managers, reducing the cost of overseeing its main fund to half a percentage point. And there's more cost-cutting to come, says one of the firm's investment chiefs.

“Fifty basis points is not bad for something that has property in it, but we could do more,” Ciaran Barr, an investment director for RailPen, said in an interview. “We'll continue to be pushing costs down. Where we are paying money to external parties, we're looking at whether we're getting a fair share of the profit.”

The pension scheme, the seventh-largest in the U.K., has hired fund managers and back-office staff since a review of its investment processes in 2013 found it would be cheaper to run money in-house. It installed a regulated investment board that allows it to buy and sell securities without pre-approval from trustees or having to pay consultants.

It's a model which, according to Barr, has caught the eye of other U.K. pension funds looking to cut costs in a world of cheap money and low interest rates.

The 50 basis-point fee on its multi-asset growth fund is less than half what RailPen says it was paying before the review. It compares with an average for similar U.K. products of about 1.05 percent, according to Morningstar Inc.

Brexit Win

The extra flexibility from managing money internally helps the fund react to market-moving events such as Brexit, where Barr said the fund manager booked a 90 million-pound ($116 million) profit by selling sterling into the vote and buying it back after the result. The multi-asset growth fund returned 17 percent last year, according to the firm's data.

Unlike many of its U.K. peers, which are closed to new members, the RailPen fund continues to accrue contributions from workers. That means it has to invest in higher-yielding assets to make sure it can meet its obligations far into the future.

Overall, RailPen manages about a quarter of its 25 billion pounds of assets internally. It has pulled 2 billion pounds from hedge funds and 5 billion pounds from active equities since the review began, while streamlining the number of self-managed funds to which it allocates money from 14 to four core products.

RailPen manages about 2 billion pounds of government bonds after cutting out external managers. In equities, it oversees just 700 million pounds internally, though that's expected to increase to “billions,” according to Barr. It has also been hiring real-estate managers with a view to bringing some of its property assets in-house.

Hiring Quants

The firm dropped its last active equity fund manager in 2016 after paying as many as 40 previously. Instead of funneling the money into cheaper passive strategies, RailPen hired its own quantitative fund managers and deployed a strategy known as alternative risk premia, which uses algorithms to try to outperform markets.

“In the world we're in now, we can harvest this risk premium at a lower cost,” said Barr. “There is lots of capital-chasing in the active equity space, so we believe it's more efficient to change the model.”

Even so, the firm still has some money in hedge funds, around 300 million pounds, including with Bridgewater Associates LP, Barr said. It has “several billion pounds” allocated to private equity but is running this down as the assets get sold. RailPen plans to partner with private-equity firms instead and do more direct investing, he said.

“There will be less money invested in funds and fund-of-funds, and more co-investment,” said Barr. “You need to be judicious. Returns are going to be lower, everyone agrees on that. The only difference is how low.”

--With assistance from Nishant Kumar

To contact the reporter on this story: Sarah Jones in London at sjones35@bloomberg.net.

To contact the editors responsible for this story: Neil Callanan at ncallanan@bloomberg.net, Paul Armstrong, Ross Larsen