Good governance is a powerful and basic function that prevents the type of risk management errors that have left some pension plans with insufficient assets to meet their liabilities in full and on time.
With good governance, pensioners in beleaguered Detroit City would receive their pensions. With good governance, the pension plan is not guided primarily by its intuitive sense that “interest rates cannot fall further”.
Governance, then, is the operating system of the pension plan. And, just as an obsolete operating system on a Mac renders it painfully slow and ineffective, a flawed governance OS causes the trustees’ decision-making framework to grind to a frustrating halt.
This area of governance is where some pension plans pull away from the pack. They make decisions much more quickly and effectively. They understand the key issues faster than the rest and weigh up their options more accurately, based upon more information gleaned in real time. They decide on more efficient courses of action and are better at execution.
Over time, the results are profound. These “iOS7” pension plans get to choose from a higher-quality pool of assets and take advantage of attractive interest rate levels before others even realise there’s an opportunity to take advantage of. They are perfectly set up to move rapidly when the situation demands it and they outsmart their competitors. I say “competitors” because in a land of slender pickings, hungry pension plans are all competing for the same choice cuts.
And, as so often in life, it’s not all about size and muscle. Thinking smarter wins out against brawn. I have seen large multi-billion-pound pension plans pass up an opportunity to take action just because they weren’t prepared, while smaller plans with “iOS7” governance took clear and decisive action.
With good governance, the pension plan is not guided primarily by its intuitive sense that ‘interest rates cannot fall further’
The strange thing is the pension plans, which continually miss out on the action, rarely address this fundamental governance problem. They continue to operate on “iOS3”; it still takes forever to fire up their hard drives, their systems freeze at the wrong moment and, as a consequence, their decisions remain flawed.
So, why would a multi-billion-pound plan (or any pension plan) persist with an obsolete operating system when others seemingly manage to make the crucial upgrade? How hard, you might well ask, can it be to switch to the best operating system available? The answer is very hard indeed.
Sometimes the person who has to make the decision to upgrade is at the heart of the problem. They have absolutely no interest in upgrading and, indeed, may need to be upgraded themselves. This is classic “turkeys and Thanksgiving” country. So, the upgrade never happens and, eventually, as the best pension plans do their regular upgrades through “iOS7”, “8” and “9”, our friends on “iOS3” are left a hundred miles behind.
They have no interest rate hedges in place, are not set up to invest in long-dated infrastructure, when the call comes asking them to join the syndicate, and they settle into a humiliating tailspin of underfunding they cannot escape.
Their oft-repeated prayer that some magical asset class will save the day remains unanswered and the prayer beads are worn out from the handling. For today’s pension plan the “iOS” upgrade isn’t an option. It’s the only way to ensure excellent decision-making.
Dawid Konotey-Ahulu is co-founder of mallowstreet, an online financial social networking community within the pension industry.