The insolvency application for broadband provider G.Network last month was yet another blow to the Universities Superannuation Scheme.
The UK’s largest private pension fund had invested close to £300mn in the upstart broadband provider in the depths of the coronavirus pandemic, only to have its equity stake wiped out in a forced sale to a distressed debt specialist five years later.
On the heels of a disastrous billion-pound writedown in its holding in Thames Water, and a failed investment in battery-maker Northvolt, questions are now being raised over USS’s push into private markets.
“Nothing ever looks very good in terms of what they’ve invested in,” said one USS member, who declined to be named.
Another said transparency was a “huge issue” for the scheme, making it “tricky” to get a clear picture of how private assets had performed.
While high-profile, the recent losses make little dent on the £77bn scheme or its ability to pay pensions. But the failures have put USS’s strategy under the spotlight, at a time when the government is pushing retirement funds to invest more in private markets to help boost Britain’s ailing economy.
USS was set up in 1974 to provide pensions for academic and senior administrative staff in the university sector. It now has 577,000 members.
It set up its own private markets team in 2007 and illiquid assets now account for about £26bn, a third of the portfolio. The scheme prides itself on investing directly into private assets to lower costs, with about three quarters of assets managed in-house.
USS’s biggest investment failure links to Thames Water. The holding was valued at £1bn in 2021, when managers believed it would deliver inflation-linked income from water bills. By 2024, its stake was written down to zero and declared uninvestable as the debt-laden utility teetered on the brink of collapse.
A £295mn investment in G.Network in 2020, and an investment in the form of a convertible loan note in Northvolt in 2023, which filed for bankruptcy in Sweden last year, also turned sour.
The investment team sources private market holdings across equities, debt, infrastructure and property, generally looking for companies that help generate returns over a long period with some inflation protection.
Performance is hard to judge: individual assets and private-market returns are not disclosed and the managers rarely comment on individual holdings.
In 2024, USS said this was partly for commercial reasons and also because they “do not want to risk confusing or misleading members into thinking that any one asset has a greater bearing on the security of their promised benefits than it actually does”.
Carol Young, USS’s chief executive officer, said that on a rolling 10-year basis, the private markets group’s performance was “consistently in the high single-to-low double-digit ballpark”.
Still, the headline performance of USS has been lower than other big, open defined-benefit schemes — where members are promised a specific income for life after retirement — in the UK and elsewhere, at 1.7 per cent annualised over the past five years, and 3.9 per cent over 10.
“The overall performance is frankly abysmal,” said Con Keating, head of research at Brighton Rock Group, an insurance company for pension schemes. “Given that there’s been a roaring bull market in equities, and given that they are levered, they should have been doing rather well.”
USS says its primary objective is to meet pension promises, not to maximise outright returns. “We aim instead to deliver returns that comfortably outstrip our liabilities, and we have done that,” said Dame Kate Barker, chair of the board at USS.
“Comparing the returns achieved by our diversified portfolio to a single asset class or public market benchmark overlooks a fundamental point: our approach will look different to someone investing for a different purpose,” she added.
Over the past five years USS’s measure of future liabilities has fallen 10.9 per cent per year as yields on UK debt have risen, dramatically improving the scheme’s funding level. It had a surplus of £10.1bn last year, putting its funding ratio at 116 per cent, up from a deficit of £14.5bn in March 2020.
USS does not expect that all the risk taken in its private markets holdings will pay off, but that overall it can generate attractive risk-adjusted returns.
The fund has had some big successes, such as an investment in Heathrow. This delivered more than £1.2bn of cash in dividends paid and profit on the sale of the stake last year after 11 years of ownership, according to a person close to the fund, who argues its successful investments attract fewer headlines.
Some assets are disclosed in its annual report: USS invests directly in about 40 UK-based private holdings, spanning onshore and offshore wind farms, energy from waste, energy efficiency installations and property. It also invests in 3,000 shared and affordable housing locations and 201 BP service stations.
The vast majority of assets managed by USS are for its DB fund, but its defined contribution section — where final benefits depend on the fund’s performance — has £3.5bn of assets built up from contributions on earnings above £71,484 per year.
USS’s headline annualised performance of 1.7 per cent over the past five years compares with about 7 per cent for the Local Government Pension Scheme, while the Railways pension fund has delivered 2.3 per cent.
But comparison with other schemes is not fair: state-backed schemes have less concern about the ability of employers to make pension contributions and they operate in a different regulatory environment, while risk tolerance depends on the appetite of the sector.
Still, a decision to significantly increase its hedged position in recent years has damped headline returns. The move has strengthened its ability to ensure it can pay pensions at the prevailing rate of interest, to protect members from fluctuations in markets.
Having a low hedged ratio had been costly to the scheme in the era of very low interest rates. But as the portion of the fund owning index-linked bonds — a way of hedging interest rate risk — grew from 20 per cent in 2019 to almost 40 per cent in 2022, these sank in value as interest rates rose. The real yield on benchmark index-linked gilts fell as low as -3 per cent in 2020 and 2021.
USS has rules laid out by trustees allowing the investment management team to invest more in growth assets when the hedging ratio — which was about 50 per cent last March — is higher.
Iain Clacher, professor of pensions and finance at Leeds University Business School, said he was now “much happier now with the way it’s being run” and members would only see the benefits of its shift in strategy “over a longer time period”.
Barker said: “The scheme is much more resilient to future shocks as a result of the hedging we have done [ . . . ] That will be really important to employers as we take them through the next valuation.”
She added that there were employers who would have liked the fund to de-risk even more in 2023, because of their nervousness about going back into a 2020 position. “As it turns out that wouldn’t have been a great thing to do in the short term,” she said.
In its latest annual report USS said 66 per cent of members trust USS to look after their pension, up from 50 per cent the previous year.
A history of industrial action highlights the sensitivities the scheme faces when setting the level of employer contributions and member benefits as the scheme has faced big swings in its funding status — meaning the risk it takes needs to be carefully managed.
Universities carried out widespread strikes between 2018 and 2023 over pension issues, including over increases to contribution rates and a cut to benefits following the scheme’s three-yearly valuation in March 2020; a time of intense market uncertainty as the pandemic hit.
Despite a turbulent decade, USS is now in the strongest position it has been in for many years. The funding level is at its highest since at least 2004 and contribution rates are the lowest ever for members, and the lowest for employers since 2009.
It also still offers DB pensions — widely deemed as providing superior retirement provision to DC schemes. 96 per cent of the UK’s 4,700 defined DB schemes are now closed to new members.
USS said its average pension paid, once the full state pension has been factored in, is in line with Pension UK’s “moderate” standard of living, at about £32,000 per year. This is guaranteed for life and members also receive a tax-free lump sum worth three times their annual pension at retirement. USS estimates someone would need a DC pot of about £450,000 to get the same income from a comparable annuity.
“It’s really important to think about if we are giving our members a good deal,” said Barker. “The reason we are all here is that we want to pay pensions and we want to ensure that the sector isn’t damaged by the fact that we’ve taken too much risk.”
