TPR- 21 st Century Trusteeship and Governance Cardano response

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1 1 Cardano TPR- 21st Century Trusteeship and Governance September 9, 2016 TPR- 21 st Century Trusteeship and Governance Cardano response September 9, Response to discussion paper 1. There are currently no barriers to entry for professional trustees. Should there be? For example, should all professional trustees be required to be qualified or registered by a professional body? All professions, by definition, have barriers to entry. These barriers might be one or more of: an educational requirement; an experience requirement; and a conduct requirement. The professional trustee profession is somewhat unusual in that anyone can call themselves a professional trustee without having to demonstrate any specific characteristic(s). Trustees often fulfil a role consistent with that undertaken by controlled functions/authorised individuals in an FCA-regulated environment. Given the similar responsibilities and required competencies it is reasonable that there would be a corresponding authorisation regime for trustees. We are supportive of professional trustees needing to meet specified requirement before they can call themselves professional trustees. We would actually like to see such requirements for ALL trustees given that the duties of trustees are the same, whether they are professional or not. Our proposed requirements include: An initial educational or experience requirement. This would create the opportunity for those with relevant on the job experience (e.g. corporate treasurers, experienced member administrators etc.) to bring these skills to bear as a trustee in the absence of a formal educational qualification. Those qualifying on the basis of an educational qualification would have a lesser experience requirement but this minimum level of experience is required in all cases. Those gaining entry via the experience requirement would still need to demonstrate a minimum (not minimal) level of TKU; Ongoing professional development requirements; Ongoing technical conduct requirements, whereby the trustee demonstrates that they are delivering on the technical requirements of their role on the schemes they have been appointed to over, say, the past three years. One way of keeping track of delivery might be a points-style approach to capturing any areas where requirements have not been met. Once a specified level of points have been accrued, the trustee receives a warning and if a higher level is breached, the trustee would then have to stand down within (say) six months; and Ongoing professional conduct requirements. A professional body is an established approach to policing the above requirements. The body might also provide training and other education resources for its members. However, such a body, or at least oversight thereof, would need to guard against group-think and conservatism. There are already a number of trustee- 1

2 2 Cardano TPR- 21st Century Trusteeship and Governance September 9, 2016 related groups operating in the UK, each with its own agenda. Bringing these groups together into a professional body might well require Government intervention if such a consolidation is to happen in a reasonably short timeframe. A further approach to managing the quality of (professional) trustees would be to consider a system like in the Netherlands, where the Dutch regulator (DNB) has an approval process for all trustees. A regulatordriven process would ensure consistency of quality, free of commercial considerations. Given the large number of schemes and related trustees in the UK, it will take time to approve a large enough group to populate all existing trustee boards. A pragmatic approach might be to start with the Chairs and then widen out to all professionals, dealing with the largest schemes first (much like the approach taken to rolling out Automatic Enrolment). 2. Do you think it is the role of the chair of trustees to support trustees and use their leadership skills to improve the likelihood of appropriate scheme processes being put in place? Given the crucial role played by chairs, do you think more needs to be done to raise the standards of trustee chairmanship? For instance, do you think that chairs should be required to meet a minimum standard through having minimum qualifications or experience or belonging to a professional body? The Chair has a crucial role in the trustee board. It is down to the Chair that the board is properly constituted and resourced, that it functions effectively and that all checks and balances are in place. More importantly, the culture among the trustees is set by the Chair. This means that the personality of the Chair and his/her approach to running board meetings should encourage open and diverse discussion at board meetings, resulting in effective decision-making. It is the Chair s responsibility to have all trustees participate and engage in the decision process. But it is worth to keeping in mind that it is common to appoint dominant personalities for leadership roles, since they are good at making things happens. Such personalities might, however, hamper an open and efficient decision-making process. We argue that it is possible to separate between the leadership role of the Chair and the content contribution of the professional and other trustees. The Chair would need to meet the minimum requirements for a Trustee, as we have proposed in our response to Question 1 above. However, there would be a further requirement for the Chair to have previously served as a trustee for a minimum number of years or in an equivalent role as a non-executive board member of a public or private company of, at least, corresponding size to the scheme in question. 3. Should the requirement to appoint a chair and report on compliance with governance standards be introduced for DB schemes? Yes, there should be consistent minimum governance requirements across all types of pension schemes. Appointing a Chair and reporting on compliance with governance standards forms part of this minimum requirement. 4. How can we help trustees to be aware of, understand and apply the TKU framework? Awareness of the TKU framework could be enforced by making review of the framework a mandatory requirement for qualification as a trustee. Application of the TKU framework could be embedded as part of the ongoing conduct requirements, as per our response to Question 1. However, the roles necessary for 2

3 3 Cardano TPR- 21st Century Trusteeship and Governance September 9, 2016 running a pension scheme might be divided across a minimum number of trustees with each trustee allocated a particular area of direct responsibility (e.g. administration, investment and communication, at a minimum). All trustees would have oversight and require commensurate knowledge of the areas that are not their direct responsibility. The TKU document itself ( could be made more accessible and directly applicable to practical situations. 5. Do you have any views as to how we can help new trustees bring their knowledge and skills up to the required standard within the statutory period? For instance would it be useful to make completion of the Trustee toolkit or other equivalent learning tool within six months mandatory? Or would the introduction of a six month probationary period for new trustees help to meet standards of TKU? What are the difficulties associated with these options and how could these be solved? The proposed requirements to become a trustee, set out in our response to Question 1 above, would ensure that trustees have met the requirements before they begin to serve. Instead of having trustees serving a probationary period, an alternative is to allowing the trustee board to have fewer members than required for a specified period after the resignation/loss of a trustee. The board would need to have observer members during this period who were working towards meeting the minimum requirements in order to become a trustee. The observer period would allow them to become familiar with the scheme in question during this time. The shortage of required members is not ideal but is a temporary situation with a finite end point. There would, however, need to be a limit to the permitted shortfall, below which the board no longer has a quorum. There are two measures that might be taken to ensure that the board always has a quorum: The board s usual constitution contains more than the minimum number of members in order to provide contingency against a loss of members; and/or Succession planning is in place to ensure that any departing members can be replaced immediately. The probationary period, if this approach is to be followed, should correspond with acquiring the minimum required experience. We question whether six months is sufficiently long. Whatever the period in question, the required minimum educational requirements must be completed during this period. From a behavioural perspective, introducing the demand to pass an exam within (say) six months creates a sense of urgency which will stimulate studying. 6. How can trustees demonstrate they have the minimum level of competence required to fulfil their role? For instance, do you think holding relevant qualifications is the right way to demonstrate competence? What are the difficulties associated with this option and how could these be solved? Are there other options? Having practical experience as a trustee and/or formalised training are useful ways to demonstrate a minimum level of competence but are not proof in themselves. One way to validate practical experience, would be to include that in a formal approval process by TPR, as proposed in our response to Question 1. The primary issue with a qualifications-only requirement is that such qualifications are, in and of themselves, not sufficient to ensure a level of competence. The qualifications need to be backed-up by a minimum level of practical experience. A qualification-only approach would also rule out those who have acquired the 3

4 4 Cardano TPR- 21st Century Trusteeship and Governance September 9, 2016 competence by virtue of practical experience. These experienced candidates must not be lost to the pool of potential trustees. We have proposed an approach to capturing these candidates in our response to Question 1. Competence is an ongoing requirement and should be monitored over time. A regular examination of trustees conduct is needed to ensure ongoing competence. We have set out proposals in that regard in our response to Question 1 too. The main challenge is that these competence requirements will reduce the available pool of trustees although the quality of this pool will likely be raised. This might lead schemes to struggle to find enough qualified trustees, particularly in the near-term. Consequently, we would be supportive of a transition period to allow time for the pool of qualified trustees to grow. 7. Do you have a view as to whether a CPD framework would assist trustees to meet the challenges of scheme governance? What are the difficulties associated with this option and how could they be solved? Continuous training/professional development is necessary for trustees to stay up-to-date with new developments. The suggestion to formalise education in a CPD program is important but requires that the training is relevant and meaningful for the day-to-day job as trustee. Using a system of education points would help the motivation. Time spent reviewing cases/incidents with fellow trustees should count towards the CPD requirement too. A challenge associated with this approach is that sufficient knowledge is not an indicator for good judgement. A long line of examples from human history show that bad judgement can be exercised by highly educated and/or long-serving people. Therefore it is also important that the ongoing technical conduct requirements, as proposed in our response to Question 1, are met too. 8. What further education tools and products would you find useful to receive from us? Trustees will use tools when they are relevant and address their practical day-to-day needs. It would be helpful to have a combination of tools, case studies and formal educational material. Case studies would, in particular, provide real-world insights into handling specific situations. It would also be useful to have to have graphical summaries of material built up in formal training for quick reference. 9. What do you think is the best way of managing conflicts of interests? How could the system be improved to reduce the likelihood of conflicts arising in the first place? There are several examples from the private and public sector on how to manage conflict of interests. We propose that TPR investigate the best practices outside of pension schemes. Management approaches might include: A requirement to register potential conflicts of interest at the time of appointment as well as, at least, annually thereafter. A ban on involvement in any decisions related to entities contained in the conflict register The Companies Act has recently been changed to require that all company directors are natural persons. This change promotes transparency. A corresponding amendment in respect of trustees would likely help 4

5 5 Cardano TPR- 21st Century Trusteeship and Governance September 9, 2016 in identifying potential conflicts of interest. However, such change potentially creates second-order issues around liability. These issues might reduce the number of people willing to serve as trustees at current compensation levels. A maximum term that a (professional) trustee can serve in a scheme. A limit to the number of trustee positions a (professional) trustee can hold as conflicts are not just economic but also relate to having available time to fulfil one s duties. Larger and more complex schemes should be weighted higher than smaller and less complex funds. Similarly, Chair roles would have a higher weighting than non-chair roles. 10. What do you think are the key challenges faced by trustees in engaging effectively with administration and investment governance and third party providers and advisers? What could we do to help them in addition to what we outline above? The knowledge gap makes it difficult to engage effectively with governance issues as well as internal and external experts. We have come across trustees who are uncomfortable to go against their third-party advisor even if they disagree with the advice they are given. If trustees would decide to go against their advisor, there is a fear among the trustees that their decision would not be considered prudent. We have proposed in our response to Question 4 that specific members of the trustee board have specific skills in areas such as scheme administration, investments and communication. This way the trustees will be better equipped to engage effectively and challenge the internal organisation and third party providers and advisers. 11. What should be done with those schemes that are unwilling or unable to deliver good governance and member outcomes? In particular, should small schemes be encouraged or forced to exit the market or to consolidate into larger scale provision? Is regulatory intervention required to facilitate this or can it be achieved through existing market forces? It is necessary that TPR clearly defines what good governance is and enforces that. The points system proposed in our response to Question 1 should prove to be a useful supervisory tool. In our opinion, good governance is about identifying the dominant risks in the scheme and managing them in a disciplined and robust way. When it comes to size, there is no clear correlation between size and financial outcomes for DB schemes. Large schemes might be more cost efficient, but also more inflexible. Similar scale and efficiency arguments exist for DC schemes too. Consolidation of DB schemes is complicated by issues related to the financial exposure of the sponsor, particularly keeping such exposure clear/ring-fenced. To the extent that poor governance results in weaker funding positions, these schemes will pay a penalty in the form of higher deficit contributions as well as PPF levies. If an objective way could be agreed to measure quality of governance, perhaps linked to our proposal in Question 1, then a further loading might be applied to the PPF levy to penalise poorly governed schemes. The mounting costs might then force constructive changes to such schemes. The impact of poor governance in DB schemes on member outcomes is limited to the difference between the benefit members would have enjoyed from the scheme compared to that which they receive under the PPF. The situation is different in DC schemes since the consequences of bad governance will more directly affect the member outcomes. We are, in theory, supportive of enabling legislation to allow TPR to, ultimately, force poorly governed and executed DC schemes to close. However, we also note the challenges of defining what 5

6 6 Cardano TPR- 21st Century Trusteeship and Governance September 9, 2016 poorly governed and executed means. It is also important to point out that the potential cost savings from a consolidation of DC schemes does not automatically translate into better member outcomes. 12. Would you find it useful to see overarching guidance covering issues common to all schemes, with more specific issues being covered in technical guidance? Yes. The recent code and related guidance published for DC schemes provides a useful basis to build upon in that regard. 13. Do you have any other thoughts on the issues raised in this paper or on how standards of trusteeship and quality of governance? Pension scheme trustees take on a complex role with significant responsibility. The range of issues that trustees have to manage is broad and multi-faceted, covering issues such as governance, administration and operational risk management, investment and financial risk management as well as member communication. Each of these aspects has significant depth too, requiring a material degree of expertise as well as the allocation of sufficient time to the role. In short, becoming a trustee is a material commitment and the responsibilities are the same as for non-executive board member in a plc. Trustees have a duty to act in the interests of the members of the scheme. These decisions made by trustees today will affect members for decades to come. However, it is not only members that are affected by trustees decisions sponsors are impacted too. There are financial implications for sponsors from decisions made in defined benefit schemes. It is critical that trustees resist the moral hazard of taking on excessive financial risk and leave the potential downside with the sponsor or the Pension Protection Fund. There are workforce management consequences arising from choices made in defined contribution schemes. In short, trustees sit at the centre of a wide circle of influence. Consequently, the quality of trustees should reflect the influence and the wider responsibility they have. A complex eco-system around the pension schemes has emerged. This eco-system consists of trustees, sponsors, unions, advisors, legislators, regulators, consultants, money managers, media, academics, etc. Organizations and individuals invest a great deal in optimizing their particular part of the value chain, but the aggregated effects might become far from ideal for members, sponsors and society. This leads to industry practices and herding behaviour which further complicate the task that trustees face. In contrast to non-executive board members in a plc, trustees are often unpaid and undertaking their role on a part-time basis. This is not consistent with the responsibilities of the trusteeship. This fundamental inconsistency needs to be addressed in framing 21 st century trusteeship to create an environment conducive to the effective management of the complex financial organisations that pension funds are. 6

7 7 Cardano TPR- 21st Century Trusteeship and Governance September 9, About Cardano Cardano was founded in 2000 to help pension plans achieve their financial objectives in a steady, predictable way by applying robust investment and risk management techniques. We are a purpose-built pension investment manager with an advisory mind-set. We offer Fiduciary Management and Advisory services with a dynamic and opportunistic approach to risk management, asset allocation, manager selection and implementation. We aim to help clients achieve a steady, predictable improvement in funding ratio without significant loss, in all market conditions. We believe steady, predictable progress toward securing members benefits is a better outcome for members and the sponsoring company. Additionally we also specialise in the area of swaps and derivatives overlay research, advice, design, execution and implementation activities for institutional clients. We have implemented over 400 billion of strategic hedges over the last decade through our Dutch office. We currently employ 140 people based in London and Rotterdam with clients whose assets total in excess of 140bn. We have a team of over 90 in London and we work with 22 UK pension schemes whose assets total over 50bn. 7