BNY Mellon-Cass Study Establishes Framework for Pension Scheme Governance

A joint study published by BNY Mellon and Cass Consulting at Cass Business School, part of City University London, advocates a framework to help trustees to better navigate the complexities of today’s risk-focused world.

The authors comment that new, more complex, more illiquid asset classes, the incorporation of derivative overlays and new regulations have all combined to produce an exponential increase in the governance burden on trustee boards.

The study, by Cass professor of asset management Andrew Clare and Cass visiting fellow Chris Wagstaff, is entitled
‘Pension scheme governance in a risk-focused world’
.  It proposes a transparent framework for a risk-based performance monitoring process. If adopted, such a framework would greatly enhance and strengthen pension scheme governance, according to the study.

Given the now widespread use of derivatives in pension scheme portfolios, the paper also proposes an alternative, more robust governance structure for monitoring derivatives portfolios, focussing on the often overlooked operational risks.

This structure envisages the establishment of a direct relationship between the scheme and the custodian that holds its derivative assets – very much in the spirit of the UK’s 2001 Myners Report recommendations for strengthening governance standards for pension schemes. 

The study also examines trustees’ motives for investing in less liquid and often more complex, ‘bond-like’ asset classes and also proposes a valuation approach that could be integrated into the monitoring framework proposed.

The paper also argues that it is possible to improve pension scheme governance by making use of simple checklists that should enable trustees to monitor key investment and operational risks of the scheme. 

Finally, in constructing the investment and operational risk checklists, the study identifies the minimum levels of knowledge and understanding that trustees require today to monitor the vast array of scheme risks efficiently. The study proposes that the widespread attainment of this minimum level of knowledge and understanding would greatly improve scheme governance.

“The operational infrastructure which comes with integrating derivatives into an investment portfolio may seem dull, but it is both very necessary and very complex,” said Professor Clare. “In fact, it’s a bit like the plumbing in our homes: nobody notices or cares about their plumbing until a pipe bursts, or their boiler breaks down. The bottom line is that trustees really need to pay more attention to the plumbing supporting their derivative investments.”

Gerald Wellesley, Europe, the Middle East and Africa (EMEA) head of pensions at BNY Mellon, said: “Our pension clients are increasingly challenged when it comes to developing and maintaining high standards of governance given the ongoing switch in focus from asset growth to risk management.

“They need better tools to support their planning around these changes and we are confident that the new framework outlined in this study will help provide schemes with the additional clarity and insight they require.”


Related reading