Guide to value for money

Transcription

1 FOR PROFESSIONAL CLIENTS ONLY Guide to value for money A primer for trustees and IGCs of Defined Contribution schemes

2 Contents Introduction 02 1 Design 04 2 Implementation 10 3 Securities lending 18 4 Investment stewardship 22 5 Transaction cost analysis 26 Final thought 30

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4 The American businessman Michael Bloomberg once said: If you can t measure it, you can t manage it and you can t fix it. Data analysis has been the maxim of the fund management industry over the past few years, where we ve seen an intense focus on all things measurable. Investing on the whole is now cheaper than ever, and there is huge momentum behind the drive for transparency. But the discussion increasingly centres on something harder to measure: value for money. We appreciate that trustees and IGCs are highly conscious of their statutory duty to report to DC scheme members on value for money. The Pensions Regulator advises focusing on four core areas when assessing value: scheme governance, administration, communications, and investments. Trustees and IGCs should consider the costs in each area and the benefits members receive in return. In a similar initiative, the FCA is currently consulting on new value for money requirements for the boards of UK investment funds, and is suggesting a number of primarily cost-based criteria for assessing value for money. We believe that investors will benefit from the investment industry achieving a consistent approach across the board. 2 GUIDE TO VALUE FOR MONEY

5 We suggest that trustees assess value for money on the basis of a range of quantitative and qualitative factors which can be applied on a case-by-case basis depending on the scheme s specific objectives, its membership, and structure. Similarly, for investment funds, we believe it is important for fund boards to take into account the fund s stated objectives and the expectations of its client base. In both cases we underline the importance of selecting the most relevant factors in assessing value for money and then weighting them accordingly. As a provider of funds and solutions, BlackRock s speciality is in investment and it is from this viewpoint that we provide guidance in assessing value for money in DC schemes. We break investment into two key parts: first, the overall investment design of a pension scheme, and second, how you execute that design using building blocks or investment solutions to achieve the overall goal. We also consider a number of other incremental factors such as the value of securities lending, investment stewardship and transaction cost analysis. To properly assess investment value for money, you may need information from us, or to meet us for an update on your holdings. We would love to hear from you. To arrange a meeting, or simply to share your thoughts, you can contact the UK DC Team on: groupdcinvestmentrelationship@blackrock.com Claire Felgate Head of UK DC Investments INTRODUCTION 3

6 1 Design 4 GUIDE TO VALUE FOR MONEY

7 The first component of investment value, investment design, refers to the overall structure of a scheme, including the default strategy and self-select options. The default glidepath, which can be more simply referred to as the investment journey, is crucial to this question. A well-designed investment journey will provide value for members in helping them to reach their ultimate goal: a comfortable retirement. RISK: All financial investments involve an element of risk. A glidepath that leaves a member underexposed to market risk in the early stages may not be able to deliver the returns needed to reach their retirement goals. Equally, one that exposes members to too much risk as they approach retirement could result in an unexpected decrease in investment if the market falls sharply. But how do you ensure that a glidepath is well-designed and therefore offers value for your membership? We believe there are four key areas to consider: 1. Desired outcome 2. Appropriate risk level 4. Flexibility Considerations for a well-designed glidepath 3. Broader trends and regulations DESIGN 5

8 1 Desired outcome The purpose of retirement investing is to accumulate savings in order to provide an income in the future when someone is no longer earning an income. Until recently, the vast majority of schemes approached this by targeting annuitisation at retirement. However, since the introduction of freedom and choice, savers can now also take their retirement pot in one go as cash, in lump sums over time or drawn it down during retirement to provide an income. Glidepaths must reflect the expected actions of members at retirement. For example, a glidepath targeting cash withdrawals might move to cash during the de-risking phase, but one targeting drawdown might shift some equities into fixed income to create a more balanced landing point. A glidepath must account for the choices on offer and target the most suitable outcome for its members. To do this, a scheme must work to understand the demographic profile and needs of its membership. 6 GUIDE TO VALUE FOR MONEY

9 2 Appropriate risk level At BlackRock, we believe all risk should be deliberate, diversified and scaled. The scheme s overall investment design should be deliberate in determining which risks are taken. This involves assessing the main risks within a portfolio and making an active decision as to whether there is a benefit to exposing members to this risk. If the risk has historically been rewarded with attractive returns it may be retained as a deliberate part of the investment strategy. If not, the risk should be mitigated or scaled down in line with the expected reward. An example of this is currency risk (which is covered on pages 12 and 13). A scheme should take a view on how much currency risk to expose its members to. This is what we view as being deliberate about risk. Secondly, diversification often provides great risk reduction benefits and is helpful in mitigating any unnecessary risk. However, diversification and asset allocation may not fully protect you from market risk. Lastly, we believe the level of risk should match the conviction of the scheme. If there is a view that the market will produce low equity returns in the medium term then perhaps the trustees should consider diversifying some of the scheme s equity holding to help manage this risk. Looking at the phases of the investment journey presents another set of risk considerations. A glidepath must consider and adjust the level of risk that is most likely to deliver the outcome members need at each phase. Typically, we see a glidepath cover three phases growth, consolidation and pre-retirement. During the growth phase, members have the longest time horizon before retirement and will generally benefit from taking more investment risk so their retirement pot can grow at a faster rate. As members enter the consolidation phase, the risk level is typically reduced to a mid-range which still provides some growth exposure but now with more downside protection. During the pre-retirement phase, risk is typically reduced further as a member approaches retirement. However, with many members staying invested we believe it s important to retain some market risk in the pre-retirement phase in order for their pots to continue to grow, albeit with a strong focus on managing the downside risks. DESIGN 7

10 3 Broader trends and regulations Investing for the future needs to take into account the trends and regulations that increasingly shape our world. These powerful forces that are changing the global economy, business, and society, also have the potential to significantly affect retirement saving and influence the outcome of our investment decisions. One trend to consider is how emerging economies such as China and India have the potential to lead world growth. Another is climate change and resource scarcity, which is putting pressure on finite global resources. Schemes can factor these in by, for example, including an emerging markets allocation in the default strategy, or an environmental, social and governance (ESG)-focused fund in the self-select menu. Emerging market investments are usually associated with higher investment risk than developed market investments. Therefore the value of these investments may be unpredictable and subject to greater variation. Another factor to consider is how a scheme s membership evolves. Certain generations might want to focus on environmental issues within the default, or need higher returns than others due to changes in real wages or home ownership. Then there is the issue of regulation. There have been many regulatory changes in the UK, such as the government s Better Workplace Pensions initiative and the FCA s Retirement Outcomes Review. It s important that trustees and IGCs carefully consider changes like these and reflect them in scheme design. A glidepath should consider these global trends and changing regulations. 8 GUIDE TO VALUE FOR MONEY

11 4 Flexibility Although the default glidepath will cater for the majority of members, some may wish to choose their own investments or have specific requirements, for example the need to invest in Sharia-compliant funds. To offer this flexibility, trustees may also consider offering a self-select range of funds. This choice provides value to members who wish to manage their own retirement savings. Next: Implementation As we have seen, a well-designed glidepath targets a specific outcome, while taking into account members broad risk preferences. Once it is set, the next step is implementation: that is, choosing which investments populate the default glidepath and self-select options. Target-date funds (TDFs) do this cost-effectively and simply in a single investment. This means less governance, as trustees have just one fund to monitor, instead of numerous building blocks. TDFs also evolve over time to incorporate changing regulations and industry views, and can offer value through effective governance and professional investment oversight of the entire glidepath. However, the investment journey for a TDF glidepath or asset allocation might not fit with a scheme s view, or that of its advisers. In this instance a lifestyle approach could be adopted instead. DESIGN 9

12 2 Implementation How to think about populating the asset allocation framework set in section one, when adopting a lifestyle approach. 10 GUIDE TO VALUE FOR MONEY

13 Once the overall design is complete, the next step is to implement a lifestyling strategy. This involves a scheme selecting the right investment building blocks to deliver value to members. Core considerations Active versus Passive The active versus passive debate is a time-honoured discussion and there is no clear answer as to which is better it depends on a scheme s needs. In many cases, a combination or blend of different strategies may be the best solution for the scheme s objectives. A helpful way to consider the different approaches is a scale of investment intensity : Figure 01: Reviewing the cost of building investment solutions Dynamic asset allocation/risk management Portfolio design and asset allocation Costs Index fund with FX hedge Index fund without FX hedge Investment intensity Source: BlackRock, June For illustrative purposes only. As the investment intensity moves up the scale, from the most vanilla index fund to a fully active fund, there is generally an increase in cost with associated benefits such as risk management and the ability to add performance alpha. Implementation 11

14 This extra cost can be good value if the benefit is valued or needed by the scheme. This depends on a scheme s objectives, and the value or benefit from each incremental stage of investment intensity changes based on a scheme s objectives at each stage of the glidepath. For example, in the growth phase, when it s likely that volatility and capital protection are less of a concern and the focus is on achieving growth, there may be no additional value in paying extra for an actively-managed fund where the manager aims to manage volatility. Additional cost is often associated with the goal of higher returns, but it s worth remembering that risk reduction is also important and this comes at a cost for example as members approach retirement it may be worth paying for a manager to actively manage the portfolio with a focus on reducing the impact of market turbulence to protects members savings. When selecting a fund, trustees should be satisfied that the objective and risk level of the fund chosen meets the overall objective for that stage of the glidepath, and that it ultimately helps members to achieve the desired outcome. Index funds with / without FX hedge Index funds track an underlying benchmark such as the FTSE 100 and, due to their scalability and systematic approach, they can be offered at very low cost. Over the last 10+ years, equity indices have delivered strong growth, although investors have experienced periods of drawdown during this time. It s worth considering why these funds have performed strongly what risk are they exposed to that has driven this performance? and whether they are likely to repeat these results. Sometimes a period of exceptional return can be explained by more than just the underlying performance of the asset class. For example, has the market delivered this return or was there a large move in currency, or monetary stimulus which spurred on the market? The question that a pension trustee must ask is: to what extent should the scheme be exposed to these events as drivers of return? This goes back to understanding risk and being deliberate in where the scheme thinks risk will add value. 12 GUIDE TO VALUE FOR MONEY

15 For example, looking at global equities (see figure 02 below), we can see that global equities without a currency hedge have outperformed global equities hedged to sterling. This type of fund will attempt to reduce (or 'hedge') the risk of currency movements between the base currency and the currency in which some or all of the underlying investments are transacted. Depending on the exchange rates, hedging may have a positive or negative impact on the performance of such a fund. The hedging strategy employed will not completely eliminate the exposure of the fund to movements between the base currency and other currencies. Rather than being driven by the underlying assets, this performance was likely spurred by Brexit, which considerably weakened sterling, increasing the returns of global equities when converted back into sterling. If a scheme or its advisers have a view on future trends in currency, paying for a hedged index fund to express that view or mitigate risk could add value for members. Figure 02: Strong returns from the equity market index Currency hedged Currency unhedged Source: BlackRock. Realised returns are based on total return indices for MSCI World Index (hedged to GBP), and MSCI World Index (GBP) from 31 January 2003 to 31 May The figures shown relate to past performance. Past Performance is not a reliable indicator of future results and should not be the sole factor of consideration when selecting a product or strategy. Implementation 13

16 Smart or alternative index investing Smart beta or factor investing has the potential to alter the outcome of an index exposure, with only a small increase in cost. These strategies combine characteristics of active investing (in that they tilt exposure to specific securities) with those of passive investing. Factors, which include the style factors of value, momentum, size and quality, have a long history of delivering excess returns. Our research shows that including smart beta in a standard glidepath can improve investment outcomes without significantly increasing cost. Source: BlackRock, Here are two options: Multi-factor equity portfolio Minimum-volatility equity portfolio Growth Consolidation Pre-Retirement Multi-factor equity portfolio: For the early to mid-point of the life cycle Combining style factors can help provide a more consistent return stream compared to any one factor and has the potential to outperform a plain vanilla equity index with a similar level of risk. For the part of the glidepath where returns are the most valuable, investors could use a multifactor fund to access a range of factors. Minimum-volatility equity portfolio: For later in the life cycle This provides exposure to equities that have the potential to deliver a similar expected return to traditional equity, but with lower volatility or risk. This could be attractive to an investor at or close to retirement, or a more risk-averse scheme. The ability to increase returns or reduce risk using an alternative approach to indexing could add value for members. 14 GUIDE TO VALUE FOR MONEY

17 Portfolio design and asset allocation Further up the scale of investment intensity, there is a category of investments where the portfolio is constructed using research views and insights, rather than by emulating an index. This includes strategic multi-asset funds. Here, a portfolio manager determines the best long-term mix of assets to meet a specific riskreturn objective, then populates it using low-cost building blocks such as passive indices. He or she then monitors the fund on an ongoing basis to make sure it keeps meeting its objective and will often have the power to override allocations in periods of extreme market stress. The benefit of this level of investment intensity is that an expert determines the best mix of assets to achieve a fund s objective, and the oversight they provide. The multi-asset approach also offers diversification, which can help to reduce volatility. PLEASE NOTE: Diversification and asset allocation may not fully protect you from market risk. Dynamic asset allocation / risk management At the top of the investment intensity scale, there are funds where managers can dynamically, i.e. actively, allocate and rebalance investments. These funds combine research and human expertise with technological tools to adapt to changing market conditions and manage risk. This freedom allows the portfolio managers to use relatively advanced protection strategies, such as hedging and derivatives, to protect and grow members savings. At the time of writing, markets are in a period of calm where index equities and other risky exposures are easily absorbing political events and valuation concerns. However, these periods do not last forever, and we could be quickly reminded about how valuable products such as diversified growth funds were for early adopters. For example, in 2009 during the financial crisis, a multi-asset portfolio fell from 1,000 to 940 while a 100% equity portfolio fell to 630 (see over-leaf). Implementation 15

18 Figure 03: Stable returns from a Multi-Asset approach Re-based to 1, December ,000 1,500 1, Multi-asset portfolio Equity portfolio Source: BlackRock, Bloomberg. Data from 1 January 2007 to 31 May The figures shown relate to past performance. Past Performance is not a reliable indicator of future results and should not be the sole factor of consideration when selecting a product or strategy. The Multi-Asset portfolio presented above reflects an equally weighted performance index of four widely available diversified growth funds on a dealing to dealing price basis in GBP that are available on a range of platforms. Performance for these funds are shown on a net of annual management fees basis. Please note fees charged may vary. Equities are represented by a 50/50 blend of global equities in GBP, and global equities hedged to GBP. They use the MSCI World Total Return Index. Realised returns are based on total return indices for MSCI World Index (hedged to GBP), and MSCI World Index (GBP) from 1 January 2003 to 31 May We must consider the psychological impact on members of sustaining high, albeit uncrystallised, losses, when aiming to maintain contributions over a life cycle. That s why there is value in assessing the ability of investments to adapt to crises or periods of sustained volatility and to assess if this is acceptable to members, depending upon where they are on their journey to retirement. Once a mix of funds has been selected from the scale of investment intensity, trustees must monitor these to ensure objectives are being met, and compare against other providers to ensure value for the member. 16 GUIDE TO VALUE FOR MONEY

19 Going deeper: Incremental value Aside from the question of investment intensity, an asset manager can add incremental value for members via a number of techniques that are deeper down within the investment process. These include securities lending, investment stewardship, and transaction cost analysis. Implementation 17

20 3 Securities lending Maximising the potential of securities we hold for clients 18 GUIDE TO VALUE FOR MONEY

21 Securities lending is one method that asset managers can employ to unlock additional value in a fund and collect higher returns than would otherwise be received. Investors can benefit from securities lending in the form of better fund performance, because a fund can generate additional income through the fee that it charges for loaning securities. With securities lending there is the very slight risk of loss should the borrower go out of business before the securities are returned, and due to market movements the value of collateral held has fallen and/ or the value of the securities on loan has risen. What is it? Securities lending is where a fund lends out some of its stocks or bonds. In return the fund will receive payment for this loan which incrementally increases returns for fund shareholders. What s the benefit? Investors in the fund receive an extra return from securities held within the fund. Since 1981, BlackRock has delivered positive lending income for every fund that has participated in securities lending. Securities lending 19

22 BlackRock s approach Securities lending agents are normally custody banks which provide securities lending services as part of their custody offering. BlackRock treats securities lending as a core investment management function with dedicated trading, research and technology capabilities. This means applying risk management, technology and investment insights to an activity often viewed as a commoditised operational activity. Our approach works like this: 1. Invest in research and technology As an investment manager, BlackRock has made significant investment in research and technology, including a dedicated research function within the securities lending business. Our investment in these capabilities is a key differentiator for BlackRock and contributes to our securities lending performance for clients. We believe in managing our securities lending programme on our proprietary platforms, rather than outsourcing this important function to a third party. That s why we have built a proprietary securities lending infrastructure, so that every element of our lending activity is executed in our clients best interest. 2. Prioritise risk management BlackRock is hired by some of the largest companies and governments in the world to manage risk. Our approach to securities lending is no different. We take a conservative, low-risk approach and use our proprietary risk and investment management platform, Aladdin, to integrate the capabilities of our research, trading and risk-management teams. We select highly creditworthy borrowers based on conservative credit standards defined by our risk team, which operates independently from our securities-lending business. We continuously monitor the financial performance of borrowers and set individual credit limits for every borrower to help minimise default risk. On top of this, we overcollateralise loans meaning we take in collateral around for every 100 loaned. 20 GUIDE TO VALUE FOR MONEY

23 3. Cover the costs BlackRock funds domiciled in Europe receive 62.5% of the income from securities lending. A BlackRock affiliate serves as the lending agent and retains 37.5% of the income. Crucially, all costs of running the programme are paid from BlackRock s portion of the income. This includes all direct operational and custodial costs. At no additional cost, BlackRock provides an indemnity against losses for investors in the rare event that a borrower fails to return a security and the collateral received from the borrower is insufficient to meet the shortfall. When some fund providers may report paying out a higher percentage of the net proceeds from securities lending, to make a meaningful comparison it s also essential to check the portion of the gross proceeds they pay to their lending agents. Figure 04: Samples of securities lending returns to BlackRock life limited funds Asset Class Fund Equity Aquila Life European Equity Index Fund Aquila Life UK Equity Index Fund Aquila Life US Equity Index Fund 27.6bps 16.8bps 6.2bps 12.4bps 7.6bps 3.8bps 5.1bps 3.7bps 1.7bps Fixed Income Aquila Life Over 5 years UK I/L Gilt Index Aquila Life Corporate Bond Index Fund over 15 years 41.5bps 24.9bps 10.3bps 2.1bps 1.6bps 0.9bps Source: BlackRock, Securities lending 21

24 4 Investment stewardship Protecting our clients assets for the long term 22 GUIDE TO VALUE FOR MONEY

25 Investment stewardship is an area which has the potential to both drive additional return and influence the contribution rates of scheme members. BlackRock takes a long-term perspective on investment stewardship, as the majority of our clients are saving for long-term goals and are therefore likely to be long-term shareholders. What is it? Investment stewardship aims to protect and enhance the value of clients' assets through engagement with companies, including proxy voting. Our engagement encourages business and management practices that support sustainable financial performance over the long-term. What s the benefit? Recent studies have shown that companies with sound corporate governance practices, including how they manage business-relevant environmental and social factors, offer better risk-adjusted returns over time 1. 1 Corporate Sustainability: First Evidence on Materiality, Mozaffar Khan, George Serafeim, and Aaron Yoon, Corporate Sustainability: First Evidence on Materiality, The Accounting Review, 9 March Investment stewardship 23

26 BlackRock s approach 1. Unlocking value through engagement When we engage with a company, our focus is on encouraging practices that support sustainable financial performance over the long term. Because BlackRock s investments have the potential to go well beyond the tenure of the current company board and management, we can be persistent in encouraging changes in practice that both protect and increase the value of capital to improve returns for scheme members. There is ample evidence of the costs of poor governance and stewardship. When companies suffer significant operating events or gradually diminishing investor confidence, value is destroyed or unattained as a consequence of disengaged shareholders not holding management and boards to account. 2. Stewardship as an investment function Stewardship is an investment function that bridges BlackRock s various portfolio management groups. The 31-member Stewardship team operates out of five offices (London, Tokyo, Hong Kong, New York and San Francisco), meaning it has the advantage of understanding the region and market-specific ecosystems in which individual companies operate. We confer regularly with BlackRock portfolio managers to share these unique insights on material ESG issues. 3. Focusing on leadership Stewardship begins with the quality of leadership; hence, we focus our efforts on the board of directors. While many of our company engagements are triggered by specific circumstances at a company, we recognise that certain governance issues are perennial, such as board quality and performance. The team has identified governance priorities which we believe are central to protecting clients economic interests (see Figure 05). 24 GUIDE TO VALUE FOR MONEY

27 Figure 05: Governance priorities Governance Corporate strategy for the long-term Compensation that promotes long-termism Disclosure of climate risks Human capital management Board composition effectiveness, diversity and accountability remain a top priority. Board review of corporate strategy is key in light of shifting assumptions. Executive pay policies should link closely to long-term strategy and goals. Consistent disclosure of standards would enhance understanding of the impact of climate change on indiviudal companies, sectors and investment strategies. In a talent constrained environment, human capital management is a competitive advantage. Source: BlackRock, Shaping the governance landscape to guard our clients assets How stewardship codes evolve can have a significant impact on companies in which we invest and, by extension, members outcomes. As such, the team actively contributes to public policy through direct engagement and responses to public consultations. We participate in approximately 40 global, regional and market-level organisations and initiatives to advance good practice in stewardship and ESG integration. The team presents at approximately 150 conferences and panel discussions each year to share BlackRock s views on a wide range of topics including ESG integration, shareholder activism, stewardship in emerging markets, and other important governance issues. The crucial point to reinforce is that this is not a product, but a service that all clients receive from BlackRock no matter which equity mandate they invest through. This means that we are representing you, our clients, on important governance issues where we aim to drive long-term shareholder value. This is valuable for members as it covers both their governance responsibility and well as being focused on investment returns through long-term shareholder value generation. Investment stewardship 25

28 5 Transaction cost analysis Minimising needless costs to boost our clients returns 26 GUIDE TO VALUE FOR MONEY

29 So far, we have focused on ways to extract maximum investment returns from the companies in which we invest. However, looking at the Retirement Equation (contributions x growth - costs = retirement provisions), there is an equally important job to do in making sure that we are keeping our costs of trading as low as possible, to prevent erosion of member returns. After all, when it comes to pension saving, even seemingly small costs can compound over decades to significantly affect the quality of an individual s retirement. Therefore any discussion of value for money must address the topic of managing transaction costs. Transaction costs are the costs incurred by portfolio managers buying or selling securities inside a fund. This can be because of investor flow, index rebalances, new investment ideas, or ongoing risk management. All of these activities result in trading, and the costs that arise because of that trading are transaction costs. What is it? Transaction cost analysis aims to determine the best way to trade to optimise net performance. It assists trading decisions by finding the best tactic for any trade, to be cost-efficient. What s the benefit? Better performance for clients. Transaction cost analysis is a great measurement and monitoring tool, but it really develops value when used for informing decisions and investment processes. Transaction cost analysis 27

30 BlackRock s approach 1. Analyse the best time and way to trade Transaction cost analysis helps our portfolio managers and traders manage how and where they trade. To trade optimally, we measure the liquidity, risk and alpha properties for all portfolio managers and funds, then balance these properties against the anticipated transaction costs. We continually refine our execution strategies, comparing broker capabilities to decide the most suitable solutions. 2. Partner with traders and portfolio managers Transaction cost analysis is a great measurement and monitoring tool, but it really develops value when used for informing decisions and investment processes. A portfolio manager s strategy may require the use of urgent trades to capitalise on a short-term opportunity or protect clients from losing money. That means a higher transaction cost but can also offer the potential for improved performance. If a manager does not need to trade quickly, he or she can be very patient and reduce the costs. One method to do this is algorithmic trading, where patience can lead to almost costless trades. Our focus is on behaviour change and better trading. This analysis can improve execution costs and investment performance. 3. Delivering on new regulations The work of our transaction cost team internally focuses on encouraging more efficient trading, and is not restricted by having to report these insights to an external audience. However, we recognise the importance of delivering timely and comprehensive costs information to investors, in a comparable format. That s why we are actively working with regulators, industry bodies and industry initiatives to drive the development of consistent reporting, enabling greater transparency for members. 4. Avoid peak prices in index strategies When there is a change to a benchmark index (such as the FTSE 100 changing constituents), everyone finds out that information at the same time, as well as when the change will occur. 28 GUIDE TO VALUE FOR MONEY

31 With higher activity concentrated at the same point, managers may optimise trades or intentionally not trade at that time to seek to reduce costs that may impact the tracking performance. Here we are trying to use our experience in trading techniques to minimise transaction costs before they arise. Transaction cost analysis is a great measurement and monitoring tool, but it adds value for members when it is used to inform investment decisions and improve net performance. The cumulative effect of those small gains in performance over an individual s life have the potential to materially change their retirement outcomes. See Figure 08 below for a 2017 market execution case study which shows BlackRock s transaction costs versus the market average. Figure 06: A 2017 market execution case study 27 bps 39 bps 30 bps 25bps Fixed income 11 bps Equity 3.0 bps FX 0.9 bps What BlackRock saved you versus the market 58 % 70 22% % Source: BlackRock analysis of all Fixed Income High Yield and IG Credit, FX, and Equity trades excluding derivatives for H BlackRock Execution Cost is the average difference between: the actual price achieved on the trade and the benchmark price. For Equity and FX, benchmark price is the market price, based on exchange data at the time when the PM submitted the order. For Fixed Income, benchmark price is the previous day s closing price. The Market Half Spread (or Expected Cost) is an estimate of the average execution cost of a market participant. For Fixed Income, Market Half Spread is estimated quarterly for each sector and maturity bucket based on a consensus opinion of BlackRock traders as well as a set of over 10 broker dealers. For FX, brokers provide Market Half Spread quarterly on a consensus basis for each currency pair and size range. For Equity, BlackRock calculates Market Expected Cost using an average of multiple independent broker models. Transaction cost analysis 29

32 Final thought We understand the increased responsibility you bear to prove that your investment choices are delivering value for money to members. And as your agents, we are acutely conscious of our duties to explain how we manage assets on your behalf, including how we strive to provide you with value for money. Investment design and investment implementation are the two key areas here, including the lesser-known areas of securities lending, stewardship and transaction cost analysis. This is an ongoing discussion on the nature of value in DC, and we would be delighted to engage with any parties who want more information on our value-for-money work. In the meantime, we can share a trustee checklist to refer to when making value for money judgements in your own scheme. 30 GUIDE TO VALUE FOR MONEY

33 Trustee checklist Ask yourself Investment Design 1. Is your asset allocation still appropriate for your scheme s objectives? Y N 2. Have you considered investments which can provide better returns? Y N 3. How do your funds perform during market turbulence? Securities Lending 1. Are you aware of what value can be gained from securities lending? Y N 2. Do you participate in a securities lending programme? Y N 3. Do you understand how securities lending works? Y N Transaction Costs 1. How do you judge your managers for best execution? 2. Are they able to demonstrate this to you? Y N 3. Is the data you receive comparable across managers? Y N Investment Stewardship 1. What do your existing policies say on sustainable investment? 2. Do you have a clear mandate to adopt a sustainable investment policy? Y N 3. What are the investment return implications of the different sustainable investing strategies? 31

34 Ask your manager Investment Design 1. What are you doing to provide value for money? 2. What is driving performance in the funds? 3. Are the funds targets still achievable in the current market environment? Y N Securities Lending 1. What are the costs of securities lending? 2. How do you assess and approve securities lending counterparties? 3. Do you offer indemnification, Y N and is there any limit to this? Y N Transaction Costs 1. What is your process for transaction cost analysis? 2. How do portfolio managers and traders use transaction cost data to enhance performance? 3. Do you perform internal post-trade analysis? Y N Investment Stewardship 1. Do you evaluate ESG risks across portfolios? If so, what do you do with the outcome of this evaluation? 2. Do you actively engage with companies on governance or other sustainable investing issues? Y N 3. How do you conduct your proxy voting? Who makes the decisions? 32 GUIDE TO VALUE FOR MONEY

35 Important information This material is for distribution to Professional Clients (as defined by the FCA or MiFID Rules) and Qualified Investors only and should not be relied upon by any other persons. Issued by BlackRock Investment Management (UK) Limited, authorised and regulated by the Financial Conduct Authority. Registered office: 12 Throgmorton Avenue, London, EC2N 2DL. Tel: Registered in England No For your protection telephone calls are usually recorded. BlackRock is a trading name of BlackRock Investment Management (UK) Limited. Past performance is not a guide to current or future performance. The value of investments and the income from them can fall as well as rise and is not guaranteed. You may not get back the amount originally invested. Changes in the rates of exchange between currencies may cause the value of investments to diminish or increase. Fluctuation may be particularly marked in the case of a higher volatility fund and the value of an investment may fall suddenly and substantially. Levels and basis of taxation may change from time to time. Any research in this document has been procured and may have been acted on by BlackRock for its own purpose. The results of such research are being made available only incidentally. The views expressed do not constitute investment or any other advice and are subject to change. They do not necessarily reflect the views of any company in the BlackRock Group or any part thereof and no assurances are made as to their accuracy. This document is for information purposes only and does not constitute an offer or invitation to anyone to invest in any BlackRock funds and has not been prepared in connection with any such offer BlackRock, Inc. All Rights reserved. BLACKROCK, BLACKROCK SOLUTIONS, ishares, BUILD ON BLACKROCK, SO WHAT DO I DO WITH MY MONEY and the stylized i logo are registered and unregistered trademarks of BlackRock, Inc. or its subsidiaries in the United States and elsewhere. All other trademarks are those of their respective owners. Unless otherwise specified, all information contained in this document is current as at November UK-FEB-18-EN

36 Why BlackRock BlackRock helps people around the world, as well as the world s largest institutions and governments, pursue their investing goals. We offer: A comprehensive set of innovative solutions, including mutual funds, separately managed accounts, alternatives and ishares ETFs Global market and investment insights Sophisticated risk and portfolio analytics We work only for our clients, who have entrusted us with managing $6.288 trillion*, earning BlackRock the distinction of being trusted to manage more money than any other investment firm in the world. *Assets Under Management (AUM) as at 31 December Want to know more? Please get in touch with your usual BlackRock relationship manager, or either of the following: blackrock.com claire.felgate@blackrock.com +44 (0) blackrock.com michael.edey@blackrock.com +44 (0)