The government should expand the Mansion House Compact to include real estate, infrastructure and UK-listed smaller companies, Abrdn has said.

The 2023 Mansion House Compact saw major pension funds agree to invest more in unlisted assets, focussing primarily on private equity and venture capital.

However, Abrdn called for the compact to be extended to other private assets such as real estate, infrastructure, and private debt and UK-listed smaller companies because of the growth potential they offer.

Abrdn head of private market solutions, Nalaka De Silva, said that focusing on real estate, infrastructure, UK smaller companies and private debt would offer “strong potential growth and are crucial to the long-term success of the UK economy”.

In addition to this, he said that channelling capital into areas that are “close to home” could also help improve pension engagement, as savers could feel they are benefiting from their investments.

A new report by New Financial, in partnership with Abrdn, found allocations to UK smaller companies by UK pension funds have “collapsed” in recent years, with one Local Government Pension Scheme (LGPS) fund having a specific allocation to UK listed smaller companies compared with 18 back in 2013.

The report highlighted the “huge” number of listed assets that could contribute to the UK economy and long-term “strong” returns to investors.

Given this, Abrdn argued that investing in listed smaller companies would also align with the government’s aim of allocating pension capital to productive areas that could support domestic growth.

This comes after Abrdn research found that the UK public was generally supportive of having more of their pensions invested in domestic shares and private assets, such as real estate and infrastructure.

The research found that more than half (54 per cent) of people would like their pension to have a greater allocation to private assets, such as housing schemes, infrastructure projects, and early-stage growth companies, while 14 per cent said they did not want this and 32 per cent were not sure.

In addition to this, 57 per cent of people would like their pension to include a higher percentage of UK company shares.

However, 42 per cent of people said this was on the proviso that investing more in the UK does not impact returns.

Abrdn said while it was positive that the public supported pension money funding domestic growth projects, this subject “surely” necessitates a national conversation about the trade-offs between risk-taking and reward.

The research also showed that 53 per cent of people have a low investment risk tolerance, meaning they would be willing to accept little to no volatility in their investment portfolio.

The calls for change come ahead of Chancellor, Rachel Reeves’, first Mansion House speech as Chancellor today (14 November), where she is expected to announce plans to create 'pension megafunds' as part of a "radical" set of pension reforms.

Abrdn agreed that a certain level of consolidation should help ensure capital can be channelled into productive growth assets, noting that there is a “long tail” of small schemes that “do not have the scale nor expertise to make investment decisions on anything but the most ‘vanilla’ of assets”.

“However, there are risks which could arise in an over-consolidated market," Abrdn head of UK institutional clients, Tom Frost, said.

"If the number of schemes is reduced to too low a number, this could limit innovation and lead to decreased competition, thereby resulting in poorer outcomes for current and future pensioners.

“It could also limit the government’s ability to identify good practice and encourage its adoption elsewhere.”

Abrdn also called on the government to foster a UK ‘savings ladder’ culture, suggesting that, by encouraging a national culture of saving and investing, policymakers could boost capital markets, help to solve low productivity, and reduce reliance on foreign investment.

In addition to this, Abrdn advocated for the government to use financial incentives to encourage the reallocation of capital instead of mandates for pension funds to change their investment strategies for pension investment reform.

Indeed, Frost urged policymakers to take a “carrot not stick” approach, warning that mandating scheme investments would “significantly” interfere with pension schemes' ability to meet their objectives and deliver value for savers.

It suggested incentives to encourage reallocation of capital could include a proposed Value for Money framework that encouraged a re-interpretation of costs and the charge cap, fiscal incentives, including tax reduction or exemption for investments in productive finance and underwriting or guaranteeing minimum investment returns.

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