Investing UK Defined Benefit pension scheme assets in Bitcoin – is it legal?

Following the recent news that Cartwright Pension Trusts have advised a UK defined benefit pension scheme on allocating 3% of their investment portfolio to holding Bitcoin – the first known transaction of its kind in the UK - and with Bitcoin having reached an all-time high value in the aftermath of Trump’s election victory (c.£69,000 per Bitcoin at the time of writing), we look at the legal issues to consider in connection with DB pension scheme trustees making this type of investment.

Investing in Bitcoin, or any asset for that matter, will involve trustees having to exercise discretion as to how they wish to hold their scheme’s assets for the benefit of their members. As such, we consider a sensible starting point for trustees would be to approach the decision in the same way as they would any other type of discretionary decision – i.e. by firstly considering whether they have the power and ability to make this investment in their scheme rules and under wider legislation and, if so, whether the power is restrained in any way.

If there is a power to invest in Bitcoin, the second step would be for trustees to consider whether they would be acting in accordance with their wider trust law and fiduciary duties in using their power to invest in such a way.

Finally, the trustees would need to consider a few practical issues around how they would hold such an asset.

We’ve explored these three steps in more detail below:

1. Can pension trustees invest in Bitcoin?

Trustees would need to check the terms of the investment power in their scheme rules as well as consider any statutory powers. Investment powers in rules are typically drafted in wide terms, and trustees also benefit from a broad statutory investment power in section 34(1) of the Pensions Act 1995. However, the rules may not explicitly permit investing in Bitcoin given it is a relatively new asset class.

If Bitcoin isn’t explicitly listed as an acceptable form of investment in their scheme rules, trustees may feel more comfortable amending their rules to make the position clear. This is likely to involve getting the agreement of the employer, as amendment powers typically provide for employer and trustee agreement.

Trustees should also consider whether investing in Bitcoin would be consistent with their Statement of Investment Principles (SIP). If investing in Bitcoin represents a “significant change” in the scheme’s investment strategy, then they will also need to review and amend their SIP, a process which will require consultation with the employer.

In terms of potential restrictions on their power, trustees should be aware that, under pension investment regulations, they must ensure that the "assets of the scheme … consist predominantly of investments admitted to trading on regulated markets" and that "investment in assets which are not admitted to trading on such markets must … be kept to a prudent level".

Given the market for buying and selling Bitcoin is not yet regulated, trustees could therefore only currently allocate a relatively modest amount of their overall portfolio to direct investments into Bitcoin.

2. Should pension trustees invest in Bitcoin?

Assuming they have the power to invest in Bitcoin, trustees should then consider whether they would be acting in accordance with their fiduciary duties in making this type of investment.

In making investments, pension trustees must take such care as an ordinary prudent person would take if he invested "for the benefit of other people for whom he felt morally bound to provide". Trustees must also invest in members' best financial interests. Diversification of assets is also a fundamental principle in pension scheme investment, and we have seen arguments that Bitcoin – an asset with low correlation to traditional asset classes such as equities and bonds – could act as a hedge against certain other investment-related risks materialising.

Trustees should also consider whether investing in Bitcoin would be consistent with any risk tolerance levels set out in their Integrated Risk Management (IRM) policy, in which the scheme’s investment risks are considered in conjunction with covenant and funding risks. For example, trustees may consider it acceptable to take a larger investment risk if such a risk is underwritten by a strong employer covenant. The converse would apply if the covenant was weak and/or the scheme was poorly funded.

To assist them in making this decision, trustees would need to take written professional investment advice (section 36(3) of the Pensions Act 1995).

3. How would pension trustees invest in Bitcoin?

Before making any investment, trustees would also need to consider and get comfortable with how they would ensure safe custody of any Bitcoin they invested in and, in particular, who would hold the "private keys". One of the main risks of investing in Bitcoin is the fact that if the private key is lost, the Bitcoin can no longer be accessed.

It's possible that trustees' existing investment managers could offer a custody service, which would need to be carefully scrutinised by the trustees, with the support of their investment advisers.

It is our understanding that the pension scheme which Cartwright advised bought and is now holding Bitcoin directly, as opposed to using a proxy such as buying shares in a Bitcoin Exchange Traded Fund (ETF).

Doyle Clayton comment:

The announcement that a UK pension scheme has recently invested in Bitcoin is a potentially significant development in the DB pension industry. We suggest that trustees, with the support of their investment advisers, continue to monitor this space. It remains to be seen whether this pension scheme will be the outlier or whether the floodgates will now open.

Before pension trustees commit to making such an investment, it will be important that they receive, fully understand and are comfortable with professional investment advice, and we’d also recommend that trustees receive legal advice on the issues identified in this article.