In March 2010, the Board of the Pension Protection Fund published its latest ‘Statement of Investment Principles’. The Statement sets out the Board’s principles and policies governing the investment of its assets, and demonstrates the Pension Protection Fund’s commitment to managing its assets effectively and appropriately to balance the interests of both levy payers and beneficiaries alike.

Fund Management

The Pension Protection Fund has appointed fund managers to oversee the day to day management of its assets. These assets comprise the pension protection levy proceeds, assets received from eligible pension schemes at the point they transfer to the Pension Protection Fund and recoveries from insolvent employers. The fund managers of the Pension Protection Fund are Insight Investment, PIMCO, Goldman Sachs Asset Management, State Street Global Advisors, Newton Investment Management, Lazard Asset Management, Aviva Investors, Auriel Capital Management, Mondrian Investment Partners Limited and Rogge Global Partners Plc. These fund managers were appointed following a comprehensive and detailed selection process.  Their performance is reviewed regularly by the Board’s Investment Committee. The fund managers invest the assets of the Pension Protection Fund in cash, bonds, equities, property and currency.

PIMCO, Goldman Sachs Asset Management, Mondrian and Rogge manage the Pension Protection Fund’s global bond portfolio.  State Street Global Advisors and Lazard Asset Management manage UK equities and Newton Investment Management global equities.  Aviva Investors invests in property and Auriel Capital Management oversees currency investing.  Insight Investment manages UK bonds and derivatives to match the future cash flows of the fund.

In 2009, the PPF recruited seven global equity managers to complement its existing manager structure: Longview Partners, Arrowstreet Capital, and RCM (UK) Ltd are positioned for immediate appointment and Investec Management, MFS International (UK) Ltd; Sarasin & Partners LLP and Lazard Asset Management are placed on deferred appointment.

PPF Investment Objectives

The primary objective of the Fund is to have sufficient funds to pay compensation to members of schemes that have transferred to the Fund.

The Fund has set an investment strategy aimed at achieving a balance between protecting compensation payments for actual and potential members of schemes whilst setting a fair and proportional levy.  This is achieved by adopting a bespoke liability driven investment strategy that targets an expected out-performance over the liability benchmark of 1.8 per cent pa.

The Board of the Pension Protection Fund has agreed a risk tolerance of 4 per cent pa of liabilities.  This is significantly less than the 10-12 per cent risk budget of most UK DB pension schemes and reflects the conservative investment approach.

The Fund targets the following asset allocation:

Permitted Asset Class	Strategic allocation	Tolerance range	Asset benchmark index
Cash and Bonds  - Cash  - UK Gilts  - Global Government Bonds  - Global Aggregate Bonds    (including credit)	70 per cent	65-80 per cent	3-month Libor FTSE Gilt All Stocks JP Morgan Government Bond Barclays Global Aggregate Bond
Public Equity	10 per cent	5-20 per cent	FTSE All-World Index
Alternatives (including property)	20 per cent	10-25 per cent	Will vary according to the asset class

A portfolio of swaps, bonds and cash is applied to the above portfolio as swap overlay to change the nature of the assets to mimic the expected liability cashflows.

The asset allocation is markedly different from the allocations of average UK DB pension schemes.  This is due to the need for a low risk strategy that aims to be relatively uncorrelated to the funding levels of the schemes it protects since the Fund needs to be solvent at times when general pension schemes are significantly underfunded.

Levy benefits and risks

An investment strategy benchmarked against the liabilities where the use of swaps removes interest rate and inflation rate risk helps to reduce the volatility of valuation of assets relative to liabilities.  This can benefit the levy payer by helping to achieve a smooth levy to be set in future.  

A low risk investment strategy also reduces the volatility of asset returns.  

Seeking outperformance of 1.8 per cent pa over the liabilities provides some value for the levy payer and also provides a cushion against the residual risks the Pension Protection Fund faces.  These risks are the longevity risk associated with the mortality assumptions underlying the expected liabilities not being borne out in practice.

The Fund is at particular risk to the possibility of interlinked insolvencies of companies.  The Fund seeks to mitigate this risk by limiting exposure to investments with high credit risk.

Use of derivatives

The strategy is liability driven with a swap overlay on the nominal amount of the Fund’s expected liabilities.  This swap overlay will remove the unrewarded risks of interest rate and inflation rates. Other derivatives may be used from time to time as protection strategies ot mitigate the risk of a fall in assets.

Derivatives are used within the currency overlay portfolio.  Currency overlay accounts for 2.5% of the portfolio and provides a source of pure alpha.  Derivatives are also used to hedge currency risk in all other asset classes.

Where appropriate, derivatives will be used in the transition of assets from the legacy portfolio of schemes entering the Pension Protection Fund to the assets required for the investment strategy.

Benchmark Considerations

A bespoke liability driven investment strategy has been adopted to reflect the dynamic nature of the liabilities.  The liabilities will change substantially over time as schemes enter into the Fund and as such the liability benchmark will need to be changed and rebalanced at least twice yearly to reflect this.  

An LDI framework provides a tailored investment strategy that helps manage the risks and conflicting needs of the Pension Protection Fund and provides a dynamic investment strategy to the dynamic liabilities and risks that the Fund faces.

The PPF as a responsible investor

Our approach
At the heart of our approach to responsible investment (RI) are two key beliefs: that by acting as a responsible and vigilant asset owner, we can protect and enhance the value of the Fund’s investments; and that environmental, social and governance (ESG) factors can have an impact on the long-term performance of the PPF’s investments, meaning that the management of ESG risks and exploitation of ESG opportunities can therefore add value to its portfolio. With this in mind we have implemented a number of measures to ensure that ESG issues are considered across all of our asset classes, starting with UK equities.

In doing this, our overriding objective is to continue to prudently and effectively manage our assets long into the future and to the benefit of all stakeholders, but especially our members who will benefit from PPF compensation.

We employ a responsible investment manager to develop and implement our responsible investment strategy.

UN Principles for Responsible Investment
We have been a signatory to the United Nations Principles for Responsible Investment (UN PRI) since 2007. The UN PRI is a global initiative that encourages signatory investors to fulfil their long-term fiduciary duties by addressing material ESG issues in their investment activities and ownership practices.

We consider that the UN PRI the provides the PPF with a best practice benchmark against which to measure the effectiveness of its responsible investment strategy. In the 2009 assessment against the Principles it achieved top quartile position on 4 out of 6 principles against its peers.

The UN PRI also gives us access to a global network of investors working towards the same goal. More information on the UN PRI can be found on its website http://www.unpri.org

Voting and engagement
We are taking our role as responsible and vigilant asset owner very seriously.

We have appointed F&C to implement voting and engagement on our behalf, currently focusing on our UK equity portfolio. In the first year of their appointment they voted 1744 resolutions at 139 Annual General Meetings. They actively engaged, through face-to-face meetings or other means, with 54 companies in our UK equity portfolio on a diverse range of ESG concerns ranging from remuneration practices to human rights, achieving positive change in 32 instances.

Our UK voting record (abstentions and oppose votes) is disclosed below.

Working with our fund managers
As part of our ongoing monitoring of fund manager performance, we are assessing their RI capabilities and activities. Where we have concerns over their RI policies or practices, we will engage with them to try and achieve positive change. This can range from encouraging them to sign up to the UN PRI, to working with them on finding ways to integrate material ESG factors into their valuations.

Future developments
By incorporating ESG issues into our investment activities we will protect and enhance the long-term value of our assets, benefiting our stakeholders long into the future.

To ensure that our activities both reflect and influence wider market practice the PPF will be taking an active role in the wider debate on responsible investment.

We will publish future developments, in particular how we will expand our RI approach to other asset classes, on this website.