A version of this article appeared in Professional Adviser – here
Recent concerns over the lack of liquidity in open ended funds should not discourage policy makers and regulators from patient capital
Mark Carney’s recent concerns on ‘open-ended’ investment funds with high levels of illiquid holdings and how they could pose a ‘systemic’ risk are justified in some respects, but it is important that one fund doesn’t discourage policy makers and regulators in addressing the patient capital, and equity gap, problem in the UK.
In this piece, Tom Hopkins looks at how the UK can best leverage its position as the global leader in innovation and research and development, with world class inventors and entrepreneurs, to drive UK growth.
The modern industrial strategy launched back in 2017 has put innovation, in particular university spinout R&D, at the forefront of positioning the UK post Brexit and beyond.
And the government has done a good job redirecting capital to support its strategy. For instance, the EIS / VCT rule changes announced post ‘patient capital review’ in 2017 has resulted in more funds backing early stage businesses.
But the policy makers understand the need for the larger chunks of capital into the venture capital sector to enable the successes to compete on the global stage.
And they recognise that whilst the £2.5bn allocated to British Patient Capital, part of British Business Bank, over 10 years is a start a chunk of this capital will be a like for like replacement for funds previously invested into UK venture / patient capital by the European Investment Fund (EIF), which is turning off their UK taps for obvious reasons
Hence the announcement in the last budget regarding a review into ways to enable investors to invest a portion of their pension pots into venture / patient capital.
And the recent illiquid investment question marks should not cloud judgement of the need to support this area of the economy. It is just a question of getting the investment vehicle correct.
Structure is key
A recent report by the UCL Commission for Mission-Oriented Innovation and Industrial Strategy highlighted the need for government to think about Britain’s industrial strategy from the perspective of purpose, and in particular around “solving grand challenges and stimulating technology development”. The report argues that this mission-oriented approach provides the why for the private investment required to work alongside public investments to help fuel UK growth.
But it also highlights that the structure of the financial system is key to the successful implementation of the government’s mission-oriented policy.
‘This is because finance and funding are not neutral. The type of finance available can affect both where investments are made and the type of activity that is funded.’ Therefore, the UK’s financial ecosystem needs a rethink to help ‘foster a greater emphasis on the provision of long-term, patient finance for investment in innovative firms.’
And whilst the UK is a world leader in areas such as university R&D, where 4 of the top 10 universities in the world are based in the UK, the UK is competing against countries where the level of patient capital is that much greater.
There is no point in increasing university R&D spending to 2.4% of GDP, which is the government’s target by 2027 (currently it is c. £5.5bn pa), if there is no funding available to create world beating companies.
And currently the equity gap in the UK is at the later stage, post various initiatives over the last 10 years addressing the early stage gap.
The UCL report highlights that the UK needs to have the ‘…ability to provide the large-scale venture capital needed to achieve market-creating innovation, particularly in areas such as deep tech. In China and the US there are large deep-tech growth funds that can write cheques of €50−100m; these are lacking in the UK…’
The report recommends that more public investments are needed in order to crowd in private-sector investment. But the latter will need encouragement and structure.
New solutions required
Last week the Investment Association (IA) unveiled a proposal for a new type of fund, which would seek to avert the recent liquidity crisis, a so-called ‘long-term asset fund’. These open-ended funds would have limited liquidity windows and would be designed to encourage retail investment in private markets.
And on the back of the last budget announcement the authorities are looking at ‘a range of measures to ensure the UK’s regulatory environment enables DC pension schemes to invest in patient capital as part of a prudentially diverse portfolio’. And there is a review of the rules to allow further unit-linked investment into patient capital assets.
Whether the future is open-ended or closed-ended funds, or government sponsored funds, the positive news is that university R&D is at the forefront of the UK’s industry strategy. And let’s hope the recent liquidity debate does not discourage policy makers about the importance of this asset class for UK plc. A fund’s strategy always must be clear (i.e. liquid vs illiquid assets), but it will be important to get the structure right so that it works for all stakeholders – investors, regulators, government and the broader economy.
