Industry Insights: Mansion House Speech Highlights Potential for the UK Markets
Mansion House speeches are often the starting point for the UK Chancellor of the day to announce future plans for the financial sector. While some have not quite lived up to the hype, a perceived or hoped for direction of travel is the ultimate goal.
Traditionally the banking industry has “benefitted” more from decisions detailed in Mansion House speeches by the Chancellor, but this year sees the private capital market, and specifically the growth sector, front and centre.
Much has been made of the lack of UK domiciled capital being invested into UK Growth companies (distinct from the managers directing those funds). While the UK is home to approximately 5.5 million start-ups and growth companies (as of 2022 – GOV.UK), the capital flows to those firms are overwhelmingly from overseas sources.
It is, of course, impossible to ignore the current cost-of-living crisis and soaring inflation rates in the UK. The Sunak led government has made tackling inflation their number one priority, and Chancellor, Jeremy Hunt reiterating they will work with the Bank of England to “do what is necessary for as long as necessary…” to bring inflation down from its current 8.681% (up from the previous month, unlike many other European nations) to their 2% target. The increase in interest rates and subsequent impact on borrowing, particularly felt by those with recent mortgage resets, may put something of a dampener on a more immediate UK economic outlook.
All of which is probably why Hunt, in this speech, decided to look further ahead to a world with inflation back in its box and the UK economy in a more effusive bubbly state, bringing us back to the private markets and unlocking capital for those 5.5 million growth companies.
Of course, it wouldn’t be a political speech without having some catchy soundbite self-referential title. So now, on the back of the Edinburgh reforms, we have… the Mansion House Reforms.
Unlike the Edinburgh Reforms — which were more a promise to consider looking at the option to maybe rethink one or two aspects — the Mansion House Reforms actually have a deadline for decisions to be made by the Autumn Statement. So, the goal is for much of what was discussed to be agreed, at least, by the end of the year.
Enter the pension funds
So back to Growth Companies and encouraging businesses to start and grow in the UK.
As with most things in life, this is all about money, and that is where the UK Pension fund industry comes in. With over £2.5 trillion in AUM and auto-enrollment in defined contribution (“DC”), the UK pension scheme is Europe’s largest pension market. Investments by those schemes in unlisted equity sits around 1% in comparison to 5%-6% in Australia (2022 report by lobby group Industry Super Australia had AUD 100 bln invested of the total AUD 500 bln AUM).
Investments by large pension fund providers in North America (state pension funds for example) or the large Dutch Pension funds either into private market funds or as co-investors are well established and demonstrate just how far behind the UK pension funds have fallen. Though admittedly, for various regulatory reasons, some of which have been recently resolved (the carry issue being the main one).
The announcement of an agreement struck with many of the UK’s largest pension scheme providers to increase allocation in unlisted equities to at least 5% is significant. The Chancellor estimates that roughly £50 billion in investments could be unlocked should the entire DC universe (the pension fund universe) follow suit. Naturally this will not be done overnight but rather with the aim for the increase to be done by 2030.
Having the nine big DC Pension providers sign up to this agreement – another “catchy” name, the Mansion House Compact – means roughly two thirds of the DC funds have bought in.
There was tacit acknowledgement that the pension fund market in the UK is too fragmented. The strength of the aforementioned North American and Australian pension funds is, to be blunt, their size. This allows them to commit substantial investments into Growth Companies (directly or via Venture Capital and Private Equity managers) while maintaining a diverse book of more liquid investments to meet their immediate liabilities.
In a bid to create the scale needed for genuine investment, the Chancellor announced a programme to facilitate consolidation amongst DC schemes. There will also be clarification with regards to investment decisions changing the focus from cost to long term returns via the Value for Money Framework. Pension schemes that fail to achieve the best possible outcomes for members will also face the wrath of the Pension Regulator and may even be forced to wind up.
Defined Benefits pension schemes (“DB”) will also be shaken up, again acknowledging the fragmented nature of the pension scheme market. Not only is a new permanent superfund regulatory regime to be introduced, apparently allowing a scaled-up mechanism to manage the specific DB liabilities, but the consolidation of all Local Government Pension Scheme (LGPS) assets will be accelerated with a March 2025 deadline being considered.
By pooling these assets and setting targets of more than £50 billion for each asset pool, the ultimate aim is to increase Private Equity investments for the DB schemes to 10%, equaling an additional £25 billion in capital. All in, by 2030, that will be £75 billion of investments from the UK Pension schemes.
Not just the private markets though
While much of the speech was targeted at the private markets, the public markets weren’t ignored with the Chancellor looking to address the much-publicised issues with the UK stock markets. After the undeniable embarrassment of microchip maker ARM seeking to list on the NASDAQ despite heaving reported government lobbying, the Chancellor has clearly targeted growing companies as potential listees on the London Stock Exchange (LSE).
Taking another recommendation from Lord Hill’s UK Listing Review (published in March 2021), reforms to the prospectus requirements are to be launched immediately with the hope of easing the burden for firms looking to raise capital from investors via IPOs (Initial Public Offerings).
Of course, it wouldn’t be a political speech without references to the greater freedom and autonomy the UK has gained through Brexit. In this instance, the freedoms are the ability to do away with the unbundling rules on research that MiFID II brought in.
This continues the recent trend of rethinking the inducements rules and deeming research in the Fixed Income space or on smaller companies with a market cap of less than £200 million as being outside the definition of an inducement. By essentially allowing “rebundling”, the hope is well funded research will reach the hands of investors and encourage them to invest in new companies and sectors.
This also alleviates some potential conflicts with the other side of the Atlantic as SEC exemptions that had been in place since the introduction of MiFID II expired earlier this month. In miraculous timing though, the U.S. House of Representatives passed legislation seeking to extend those exemptions for a further six months tying in nicely with the UK plans.
The proposed UK changes may also help conversations with EU counterparts under the recently signed Memorandum of Understanding (MoU) as the EU announced in December 2022 that they too would look at lifting the research rules to encourage investments in listed companies and encourage listings on European markets. Hard won freedoms indeed…
Interestingly the Chancellor referenced the removal of both the Share Trading Obligation and Double Volume Cap (freeing up trading on dark pools) for UK businesses via the Financial Services and Markets Act 2023, describing them as “protectionist EU rules” before he celebrated the “new relationship” with the EU post signing of the MoU. Quite what that “new relationship” will look like with such rhetoric we will wait to see.
The UK regulators were also lauded as being some of the best in the world as their newly acquired focus on growth and competitiveness was highlighted. This is something the market has been a little skeptical about however, as this focus may be at odds with the FCA stated goal of protecting markets. To alleviate the additional pressures of promoting growth, while also protecting investors from inappropriate investments, the Chancellor declared that almost 100 pieces of “unnecessary retained EU law” would be repealed. While he neglected to mention which of those exact laws were being repealed, apparently, it will lead to a simplified rulebook.
Best outcome for savers?
Anyone with even a passing interest in FCA publications will know that the UK regulator is hyper focused on protecting consumers and retail investors. Some of this focus and concern was repackaged by the Chancellor as his three “Golden Rules” when thinking about the pension reforms. Paraphrased somewhat, any decision taken should:
- Secure the best possible outcomes for pension savers
- Prioritise a strong and diversified gilt market
- Strengthen the UKs competitive position as a leading financial centre
While the need for investment in UK Growth Companies is undeniable and does present a potentially lucrative investment opportunity, the risk involved should not be overlooked.
Many Growth Companies, sadly, do not develop to the point of actually listing, regardless of which exchange that may be on. Rather than direct investments, exposure to Growth Companies is far more likely to be achieved via private equity funds. As we saw not so long ago with Real Estate funds, pension fund providers will need to adjust their investment horizon considerations to avoid liquidity mismatches.
Of course, much of the Real Estate fund pressures were down to the redemption terms of the underlying funds though the reported rush to redeem by pension funds certainly exacerbated the situation. Perhaps the envisioned scalability of the consolidated pension fund sector will alleviate these potential pressures. But with the FCA championing the incoming Consumer Duty (and LGPS being considered as retail investors as a default setting) there could be some concern further down the road.
In today’s 24-hour media cycle the details for most, if not all, political speeches are leaked some time in advance of the actual speech. The agreement by the large Pension Funds was announced prior to the Mansion House and the push to free up DC schemes to invest has long been a signposted target.
Both sides of the UK political divide have expressed an agreement towards much of what was announced and at the recent BVCA High Growth Conference representatives from both of the UK’s main political parties declared their support for the growth sector and the need to close the funding gap.
It is difficult to envision any future government wanting to unpick any of the proposals. Given the general consensus on potential future general election results though, a cynic may be inclined to raise an eyebrow at the proposed dates for capital to start flowing into the Growth sector and wonder just which side of the fence the current Chancellor may be sitting. Then again, all of what was proposed is predicated somewhat on bringing that pesky inflation rate down.
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