Pooled, segregated or bespoke: which is best for DB schemes?

One of the benefits of working at a solutions house is that I don’t have one horse in this race: different structures can work better for different clients for different reasons. I do, however, have a good vantage point from which to comment.

For this article I’ll focus on three main options and consider this for a client invested in a liability-driven investment (LDI) strategy, given that forms the core of most DB pension scheme portfolios. These options being: pooled, bespoke pooled (QIAIF or CSUF)[1] and segregated.

Pooled power

Pooled structures have been an area of discussion of late, so I will start there. A reminder of what pooled structures do very well: provide a low-governance way to access bespoke LDI solutions using economies of scale to pool assets and thereby reduce costs. They are reliant on a strong framework e.g. cash being available to back the leverage used and sensible restraints on the amount of leverage employed. 

However, they do not give a scheme control of its assets; this sits with the relevant fund manager. They also do not allow for too many added extras. Using the analogy of buying a new car, heated seats aren’t included as standard. 

One such ‘added extra’ is the ability to take into account eligible credit in collateral headroom reporting, thus reducing the required contribution from the LDI portfolio (without selling assets). This is available in a segregated or bespoke pooled arrangement. 

Segregation scale

In segregated structures, every conceivable modification is, in theory, available. Additionally, a scheme has direct control of its assets. Historically, these modifications came at an additional cost, which made it difficult to justify for smaller schemes. However, this is not always the case now; for example where managers are able to offer up partnerships with custodians to use their size to reduce costs. Although, more broadly, by leaving pooling you are also leaving the pooling of costs. 

The question then becomes, if the cost isn’t too much more, should I pursue a segregated option? This really comes down to governance. The setup of the mandate (i.e. the scheme’s decision on each modification) and the relationship with the custodian is now for the scheme to manage.

Bespoke balance

A third approach is also available where schemes would like some modification and separation without the implied governance of a segregated arrangement: enter bespoke pooled. 

What this does not provide is full management control to the scheme, and it is also true that this structure can be subject to regulatory frameworks outside the UK. Responsibility for this structure, though, sits with the fund manager again – they manage the custodian relationship, costs and access to counterparties. Depending on your point of view, this might read as a positive or a negative. 

It’s worth adding that one QIAIF may not be equivalent to a QIAIF at a different manager. Areas such as dealing frequency, counterparty panel and associated trading costs can vary materially.

GMT gets a new meaning

To summarise, budget is the key differentiator here. This doesn’t just mean cost, because at a certain size these will converge and, as mentioned, work has been done by market participants to reduce costs for segregated solutions. Governance budget is a key area to consider. Modification budget is another. Modifications can have a direct cost, but also a time cost. 

That leaves us with ‘GMT’ as the acronym (governance, modifications and time); I hope I’ve provided something to timely consider now we’ve moved back to Greenwich Mean Time for the winter! 

 
[1] Qualifying Investor Alternative Investment Fund, Client Specific Unitised Fund.