UK – Scotland's Lothian Pension Fund has cited lower than desired returns and reputational risk as key reasons it has yet to invest in social housing, arguing that the asset does not fit easily with its ethos as a growth investor.
The £4bn (€4.6bn) local authority fund's Clare Scott also raised questions about the ability of UK housing associations to increase rents in line with inflation if a period of above-average inflation were to occur.
Scott, the former investment manager and now service manager at Lothian, told the National Association of Pension Funds Investment Conference in Edinburgh that the so far relatively unblemished track record of housing associations with regard to bond defaults should not be taken for granted.
"There is a wide variation in housing associations, and I would say it is certainly not without risks, you do need to build it in," she told attendees. "Just because there has never been a default, or very few defaults, doesn't mean it's not going to happen."
She said she did not at present see social housing becoming a "major" asset class within the local government pension sector, but that this could change in future if increasing maturity were to impact individual fund's cash flow further.
Scott noted that there was no consensus on where within a portfolio social housing fell, with some considering it a fixed income asset.
She said in Lothian's case it would be held as part of its alternatives exposure.
"I can see it fitting in with a more index-linked asset/liability matching portfolio, but we have a relatively growth-focused portfolio with very low amounts of index-linked [assets], so we are not looking for diversification in that asset class," she said.
However, return expectations on social housing were given as the primary reason Lothian had yet to invest, with Scott admitting that while returns closely matched liabilities and inflation – due to the usually guaranteed inflation-uprating – it was not as substantial a return as targeted by the fund.
"We are looking for 3.5% real on our alternatives, probably a little bit more than that, and this doesn't deliver that type of return," she said.
She went on to mention reputational risk, often given by UK pension funds as one of the main reasons why they have yet to enter the residential market in the same fashion as their Continental counterparts.
"If inflation is high for a prolonged period, is it politically acceptable to put rents up by inflation?" she asked.
Scott further raised the issue of concentration risk, noting that, in Scotland alone, half of the properties were owned by 10% of existing housing associations.
"If you are looking for a balanced portfolio, then the market doesn't seem to support it," she said.