Unlike traditional stocks and bonds, ‘illiquid assets’ are investments that are not readily traded on a public exchange. Examples include ports, toll roads, affordable housing developments, off-shore wind farms, factories and late-stage start-up companies.
The illiquid nature of these assets means they can take longer to sell, but also have the potential to generate higher long-term returns than traditional assets and offer diversification benefits. The multi-decade investment horizons associated with illiquids means they are deemed particularly suited to pension funds that have sufficient scale, investment management, research and governance capabilities. However, in all cases it is important that pension funds only invest in assets which meet the needs of savers and scheme members.
The PLSA’s new report, Pension Scheme Investment in Illiquid Assets, sets out case studies from 10 public and private sector schemes – Local Government Pension Scheme (LGPS) funds, Defined Benefit (DB) schemes, Defined Contribution (DC) schemes and DC Master Trusts – with the aim to provide information for pension managers, trustees and policymakers on how pension schemes invest in this asset category and the issues to be considered when making these commitments.
Financial return not the only benefit from illiquid investing
Pension schemes featured in the report said including illiquid assets in their investment portfolios brought a number of benefits including diversification, inflation protection, better returns in private credit through removing intermediaries and the opportunity to invest locally.
These benefits are balanced against specific risks associated with investing in less liquid assets, including assets being more difficult to divest than expected, the need for different governance arrangements, uncertainty of cashflows, heightened geo-political and regulatory risk, higher than expected correlations to traditional asset classes in times of stress, and cost.
As the report shows, through their illiquid and private markets investments, pension schemes have provided funding to a range of projects which have brought societal benefits to the local communities. These include debt finance for a help-to-own scheme for local residents in the West Midlands by the West Midlands Pension Fund, clean energy projects in Wales by the Clwyd Pension Fund and the development of a 600-acre “Smart Campus” site in Somerset by the Merseyside Pension Fund, which was subsequently selected by Tata Group for the location of its £4bn electric car battery gigafactory.
CASE STUDY – GRAVITY LOAN
In 2020, Merseyside Pension Fund provided financing to facilitate the remediation and development of a more than 600-acre site in Somerset, which has recently been selected by Tata Group for the location of its £4 billion electric car battery gigafactory.
In July 2020, at the height of the Covid-19 pandemic, MPF committed to a senior land and infrastructure loan in Somerset. The loan was secured against an existing strategic site in Southwest England known as “Gravity” and provided funding to refinance existing debt, finish the buildout of infrastructure, remediation, and fund enhanced planning.
The project’s objective was to create the UK’s first “Smart Campus” that would be technology and low-carbon focused. The investment contributed to creating 616 acres for Storage & Distribution, Energy Generation, Manufacturing, R&D, and leisure. The initiative targeted occupiers in various sectors, including electric car manufacturing, e-commerce, food distribution, and life sciences.
In 2017, the site had gained Enterprise Zone status, valid until 2042. Businesses basing themselves on the site benefit from lower taxes, access to superfast broadband, and streamlined planning permission to facilitate local infrastructure.
In 2022, the Gravity Local Development Order (LDO) was adopted by Sedgemoor District Council (now Somerset Council). The LDO is a streamlined form of planning consent, contributing to the UK proposition to attract investors and new business to Somerset, as it provides certainty to inform decision-making. The site had outlined planning consent for up to 1.1 million square metres of industrial space and 750 homes under the LDO.
Gravity is collaborating with Bridgwater & Taunton College to create a leading network of education and skills initiatives. Together, they developed a “Skills Charter” intended to outline principles and objectives from which individual Employment and Skills Plans for each occupier/site will be developed to deliver benefits to the local community, Gravity, and its occupiers. The objectives are to meet occupier demand for talent and provide strategic linkages into local schools, such as Bridgewater and Taunton College, to foster young people’s ambition and provide the new workforce with support and training.
The Gravity site can also offer bespoke renewable and low-carbon on-site energy solutions. In addition, it has licences to abstract up to 1.1M m³/year from the adjacent Huntspill River. In 2019, Gravity was shortlisted by the Advanced Propulsion centre commissioned by the UK government to identify locations for Gigafactory sites. It resulted in its international promotion by The Department for International Trade. Gravity also had strategic ties with the Faraday Institute to attract battery producers to the UK, leading to discussions with global battery producers about potential factory requirements.
The efforts of promoting the site proved to be fruitful. In July, Tata Group announced that it had chosen Gravity for the location of its £4 billion electric car battery gigafactory. It will be one of the largest-ever investments in the UK automotive sector and is said to create up to 4,000 highly skilled jobs on-site. With an initial output of 40GWh, it will be one of the largest factories in Europe, providing almost half of the battery production that the Faraday Institution estimates the UK will need by 2030 to support its transition to zero emissions vehicles.
The gigafactory will secure UK-produced batteries for another Tata Sons investment, Jaguar Land Rover, as well as other manufacturers in the UK and Europe. It will supply JLR’s future battery-electric models, including the Range Rover, Defender, Discovery, and Jaguar brands. Production at the new gigafactory is due to start in 2026.
The PLSA has recommended six policy interventions to encourage greater investment in growth assets in the UK, including illiquids. These include raising minimum workplace pension contributions, empowering organisations like the British Business Bank to bring forward a pipeline of suitable investment assets at low cost and providing fiscal incentives to increase the attractiveness of UK assets. Other measures call for regulatory changes to allow open DB schemes more flexibility to pursue higher investment returns, and reforms to ensure employers and trustees can place more focus on performance rather than only cost when they are selecting or designing a workplace pension.
Nigel Peaple, Director Policy & Advocacy, PLSA, said: “The recent debate surrounding the Mansion House reforms has not always reflected the wide range of investing already underway in illiquid assets by many pension schemes, nor the willingness of the sector to explore doing more provided such investments meet the needs of savers and scheme members.
“These case studies outline the real-world benefits savers’ pension contributions are providing at a regional and national level and also provide a blueprint to schemes that are less advanced on their journey to investing in less liquid and private assets.
“Over the last six months the PLSA has highlighted to Government several ways in which it can further encourage pension fund investment in UK growth assets: support for a pipeline of suitable assets, the right fiscal and regulatory regime for DB and DC saving, and increasing the level of workplace pension contributions.”
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