Donny Hay says a simple section 36 letter could reassure trustees over their fiduciary manager selection.
Ever since the Pensions Act 1995, trustees have been required to take investment advice before appointing a fund manager to look after investment products. This advice is reflected in the section 36 letter issued by consultants which sets out the reasons why they believe the appointed manager is appropriate.
In effect, by receiving this letter, the trustees can demonstrate that they did receive appropriate advice and, consequently, gain protection should anything subsequently go amiss.
One of the surprising aspects of the Pension Act 1995, was that, in its definition of investment products, pooled funds were included in the mix, but not segregated mandates. However, investment consultants, recognise the potential risk for trustees of not being able to demonstrate they received the right advice and frequently agree to produce a section 36 letter for segregated mandates.
At IC Select, we have come to the view that trustees need at least the same level of protection when appointing a fiduciary manager as they do when appointing any other type of manager, for example a passive mandate over 5% of the assets.
After all, fiduciary managers will typically be responsible for the management of 100% of scheme assets as well as the strategy mix. Their advice and management will determine the future course of total investment returns. Contrast this with passive managers looking after 5% of total assets, who have virtually no impact on overall long-term returns
Whichever mandate is involved, trustees need to consider the operations of the appointed manager, or to be able to demonstrate that they have delegated this work to a third-party. A failure to show they have done this could easily come back to haunt them.
Using this argument, section 36 letters are not only appropriate for full fiduciary mandates, but also partial fiduciary mandates, based on a single asset class, or fund.
Here, a third-party evaluator is surely needed for the task. It may be legally correct for a consultant to write a section 36 letter, but how independent does it look when the consultant is telling their clients that they are the best manager for a mandate?
Trustees will be judged on what they do today, by the standards of tomorrow. For most, a ‘turn key' approach is insufficient and good governance surely demands that trustees go the extra step and demand section 36 letters to support their fiduciary manager selection.
And if trustees appoint a third-party evaluator that is not prepared to take responsibility for their advice and provide a section 36 letter, they really ought to consider why not.
Donny Hay is director at IC Select
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