Investment Briefing

The Investment Briefing takes a look at current issues of interest to pension schemes and investors.

In this Briefing:


  • The European Market Infrastructure Regulations (EMIR) set out risk mitigation measures in relation to over the counter derivatives (OTCs) within the European Economic Area (EEA). At the heart of EMIR is the requirement for central clearing of certain OTCs with newly established central counterparties (CCPs), but the regulations encompass a range of different measures. Similar initiatives are being developed in other jurisdictions, for example the Dodd-Frank requirements in the United States.

Impact on pension schemes

  • Pension schemes are “financial counterparties” under EMIR and will therefore be subject to its requirements. EMIR will directly affect any scheme with OTCs, for example as part of a liability driven investment programme. There may also be indirect implications if a scheme has pooled fund investments that use OTCs.
  • Pension schemes have a limited exemption until August 2015 (which may be extended to 2018). However, the exemption only covers the central clearing requirement. Affected schemes will therefore be required to ensure that they (or their managers) comply with the other risk mitigation measures, including:
  • timely trade confirmation requirements; and
  • reporting to trade repositories.
  • Use of the exemption is not mandatory and schemes will be able to clear on a voluntary basis if they wish.
  • The impact of grandfathering provisions on new trades in this interim period may need consideration if the scheme is currently in the process of putting OTCs in place.
  • Non-cleared trades may be subject to a requirement to post initial margin. The details of this are still the subject of consultation, but this is only likely to affect larger pension schemes as the requirement will only apply to groups with an €8 billion or more OTC exposure from 2019 onwards (the threshold is higher during a staging period).

What is the timetable?

  • The framework EMIR provisions became law on 16 August 2012. As EMIR is “directly effective” in the UK, it does not need adopting into English legislation for it to be binding in this country. Specific measures under EMIR are coming into force in stages, as the detailed underlying technical standards are published.
  • The technical standards on reporting came into force on 1 July 2013. The industry still has work to do before the necessary infrastructure is in place and, at present, there is no authorised trade repository to accept mandatory trade reports.
  • Technical standards published on 7 June 2013 set out standards for the operation of supervisory “colleges” that need to be set up to scrutinise the application of a CCP for authorisation under EMIR. It is thought likely that it will be several months before any prospective CCPs are approved and that the first wave of CCP approvals will relate to the clearing of interest rate swaps and credit default swaps.

Action points

  • Schemes with OTCs may wish to engage with their managers to ensure that they will be ready for EMIR. In particular:
  • Have your managers considered the impact of these developments on the way the scheme’s portfolio or pooled fund works?
  • If a scheme has direct OTCs, is its manager ready for the reporting and timely confirmation requirements?
  • Will managers be expecting schemes to sign up to any new documentation to facilitate EMIR and, if so, when will it be available for review?
  • Would it be desirable to have the infrastructure for voluntary clearing before this becomes mandatory?


  • A number of different jurisdictions are adopting new rules regulating OTC markets, notably Japan and the United States. There has been considerable speculation about the extra-territorial reach of the Dodd-Frank regime and how this will interact with EMIR requirements within the EEA. This area is still developing but care may be needed where dealing with non-EU entities (and particular care may be needed with US banks).


  • Final guidance and regulations published by HM Revenue & Customs (HMRC) confirm the exemptions for UK pension schemes from the reporting obligations on financial institutions arising under the US Foreign Account Tax Compliance Act (FATCA).1 For the most part these confirm the specific pension scheme exemptions to be found in the earlier drafts, namely:
  • pension schemes or other retirement arrangements established in the UK are generally exempt from the need to register as a Financial Institution, being categorised as “non-reporting UK Financial Institutions”; and
  • HMRC registered pension schemes2 are regarded as exempt products and are therefore not treated as Financial Accounts.
  • As we reported previously,3 the upshot is that most trustees (and trustee companies, including their directors and officers) will not need to register. There had been some ambiguity in earlier draft guidance and regulations as to whether professional independent trustees would need to register as reporting Financial Institutions, notwithstanding the pension scheme exemptions, if they were themselves “independent legal professionals or a trust or company service provider (TCSPs). However, references to TCSPs have been dropped from the final guidance and regulations, so it seems clearer that such trustees would not have a standalone obligation to register.

EU Bank Recovery and Resolution Directive

  • The Bank Recovery and Resolution Directive (currently in draft) aims to provide national authorities with the means to tackle future banking crises at the earliest opportunity, whilst reducing the impact for tax payers.
  • The draft Directive provides a “bail-in” tool – a process of internal recapitalisation that will apply where a national authority triggers a resolution (because the firm is no longer viable). Bail-in will allow the write down of certain liabilities, with a view to ensuring that costs are borne by shareholders and unsecured creditors rather than taxpayers.
  • Certain liabilities are excluded from the scope of the bail-in and from an investment perspective, a key concern is whether this exclusion will cover derivative transactions. As drafted, the Directive leaves this to the discretion of each member state, which can exclude derivatives from bail-in if “necessary or appropriate” to:
  • ensure the continuity of critical functions; and
  • avoid significant adverse effects on financial stability.
  • This appears to create a potentially uneven playing field between member states. However, cleared and non-cleared collateralised derivatives are expected to be excluded from the bail-in (because they are treated as secured liabilities), so this issue should only be relevant to non-cleared uncollateralised derivatives (for example, currency forwards which tend not to be collateralised at present). But member states could still exercise bail-in in relation to uncollateralised exposure.
  • The draft Directive also includes provisions which suspend termination rights under counterparty agreements when action is being taken under the Directive. The extent of that suspension is subject to discussion.
  • We are monitoring this and will report on further developments.

FTT Directive

  • Back in February 2013, the European Commission published its proposal for a new Directive on a common system of financial transaction tax (FTT). Very broadly, the tax would be levied on trades in “financial instruments” (including shares, bonds, derivatives and shares in collective instrument undertakings) that involve “financial institutions” – this term is widely defined and includes pension funds. Although the European Parliament had earlier voted to exempt pension funds, this was not included in the final proposal on the basis that an exemption would give pensions an unfair advantage over other retirement and savings products.
  • Having failed to gain sufficient traction for EU-wide implementation, the FTT is due to be introduced in the eleven EU member states that have agreed its adoption4 and to apply from 1 January 2014, subject to the unanimous agreement of the participating member states.
  • Although the UK has chosen not to sign up to this Directive, it will clearly still have an impact if taken forward. Pension funds that invest in securities in the FTT zone, or which undertake transactions with parties in those countries (and possibly also UK branches of parties headquartered in those countries), can expect to be directly affected. However, the FTT is also likely to raise the cost of UK Gilt issuance (current estimates put this at around £4bn) which is also likely to have a material impact on pension funds.
  • The UK Treasury has brought a legal challenge to the FTT before the Court of Justice of the European Union (CJEU). However, many commentators believe that, rather than this legal challenge running its course (which could take several years), it is more likely that the UK will use it as a backdrop to negotiations for some modification to the FTT proposals. Other countries (including some in the FTT zone) have also expressed concerns about some of the FTT’s implications, particularly in relation to any increase in costs on transactions in government bonds and made other proposals. Additionally, the Dutch Finance Minister has said that the Netherlands could still sign up to the FTT if its concerns (including a pension fund exemption) are met. It is therefore likely that the FTT will see some modification (and possibly delay) as a result of political wrangling before it comes into effect.

NAPF: Responsible Investment

  • The National Association of Pension Funds (NAPF) is continuing to promote best practice5 for trustees as investors and has updated its guide to responsible investment (last published in 2009).
  • The new version of the guide:
  • focuses on the case for why pension fund investors should be seeking to incorporate extra financial risks (including governance and material environmental and social risks) within their investment decisions with a view to protecting against value destruction, potentially enhancing risk adjusted returns and ultimately supporting better member outcomes; and
  • sets out how pension funds can, in keeping with their fiduciary duty, move the market towards one where responsible investment is considered the norm.

Law Commission: Fiduciary Duties

  • The Law Commission is investigating the duty of financial intermediaries to act in the best interests of beneficiaries when considering an investment strategy.6
  • This includes consideration of the extent to which trustees and others wish to take into account environmental, social and governance factors and whether the law acts as a barrier to ethical investment. Among other things, the Law Commission is also looking at whether fiduciary duties lead to “herding behaviour”, too much diversification and discourage stewardship activities.
  • The Law Commission is expected to publish a consultation paper in October.

Case Update

Wheels Common Investment Fund Trustees v HMRC7

  • Wheels Common Investment Fund (Wheels) is the trustee of a fund which pools, for investment purposes, the assets of workplace pension schemes established by the Ford Motor Company. Fund management services were provided to Wheels on which VAT was charged and accounted for to HMRC.8
  • Under the EU VAT Directive, the “management of special investment funds” is exempt from VAT. The CJEU found that the exemption does not extend to UK defined benefit schemes or to common investment funds.
  • The NAPF has been making “strong representations that the management of pension funds should be VAT exempt” in response to the EU Commission’s review of the VAT Directive.

1HMRC: International agreements to improve tax compliance (31 May 2013)
2 Registered with HMRC under Part 4 of the Finance Act 2004
3 Please see our March 2013 Investment Briefing
4 The FTT zone comprises: Austria, Belgium, Estonia, France, Germany, Greece, Italy, Slovakia, Slovenia, Portugal and Spain
NAPF Responsible Investment Guide 2013 (Updated 21 May 2013)
Law Commission: Fiduciary Duties of Investment Intermediaries 
7 [2013] Case C-424/11
8 Please see our Alert: “No VAT Exemption for Workplace Pensions” (11 March 2013)