Appendix 1

Statement of investment principles

Introduction

· Hampshire County Council is the administering authority for the Hampshire Pension Fund which includes the County Council, two city (unitary) councils, 11 district councils, around 120 other scheduled bodies, and 100 admitted bodies. The total number of contributors is around 46,000 and there are approximately 24,000 pensioners.

· The Local Government Pension Scheme (Management and Investment of Funds) (Amendment) Regulations 1999 require administering authorities of pension funds to prepare and review, from time to time, a written statement setting out the investment policy for their Fund.

· The Government has endorsed the recommendation in the Myners Report on Institutional Investment that Statements of Investment Principles should be strengthened to include details of the Fund's decision-making structure, investment objective, asset allocation strategy, and advisers' and managers' mandates.

· The Local Government Pension Scheme (Amendment) (No 2) Regulations 2005 require the Fund to maintain a Governance Policy Statement. This is included in this SIP.

· This SIP has been drafted in compliance with these regulations.

Types of investments to be held

· The Fund can be invested in shares, bonds and other investments to limits defined in Schedule 1 of the Local Government Pension Scheme (Management and Investment of Funds) Regulations 1998 as amended by the Local Government Pension Scheme (Management and Investment of Funds) (Amendment) Regulations 1999 and the Local Government Pensions Scheme (Management and Investment of Funds) (Amendment) Regulations 2000.

The main limits are:

- no more than 10% of the total Fund can be invested in any individual holding

- no more than 25% of the total Fund can be invested in each manager's in-house unit trusts.

· A comprehensive review of the Fund's investment management arrangements was completed in October 2006, and a new specialist management structure has been put in place to take effect by 1 January 2007.

The expected return on investments

· The overall objectives when investing the Fund are

- to achieve a 100% funding level, which means that all current and future fund liabilities (pensions and other benefits) can be met in full for the foreseeable future

- to maintain a stable employers' contribution level, with a long-term target around 200% of employees' contributions set for the actuaries.

· Following an asset/liability study in 2005 by the Fund's actuaries, Hewitt Bacon & Woodrow (Hewitt), the Fund's target is to achieve a long-term return 2.5% a year above a low-risk portfolio, which is defined as a portfolio invested 85% in index-linked gilts and 15% in fixed interest gilts.

Spread of investments

· The Fund's Pension Fund Panel has agreed the following specialist investment management structure which takes effect on 1 December 2006. The structure is designed to achieve the overall long-term target return without exposing the Fund to excessive risk.

· Ten managers have been appointed for 11 separate mandates. Contracts are for an initial five-year period, but can be extended for periods of up to five years subject to satisfactory performance. Full details of the Fund's new investment management arrangements are set out in the attached Annex.

· The Panel also intends to invest up to 10% of the Fund, equivalent to around £250m based on current value, in alternative investments, such as private equity and hedge funds. These investments will be funded from new cashflow, as the Fund's income will exceed its expenditure over the foreseeable future.

· Projected annual investment returns on asset classes assumed by Hewitt Bacon & Woodrow (Hewitt) in the 2005 asset/liability study were:

Realisation of investments

· Managers are asked to avoid unnecessary sales and purchases of stocks which incur transaction costs. All sales and purchases of stocks must be regarded by the managers as being in the financial interests of the Fund, ie they will either improve the return or limit excessive risk.

· Transaction costs are monitored closely and reported to the Pension Fund Panel on an annual basis.

· Managers are asked not to invest in stocks which are not readily realisable (turned into cash).

Social, environmental and ethical considerations

· The prime objective of the investment of the Fund is to achieve the best financial return consistent with an acceptable degree of risk.

· However, the Fund recognises that the adoption by companies of positive social, environmental and ethical principles in planning their activities can enhance their long-term performance and increase their financial returns.

· The Fund has delegated to the fund managers responsibility for taking social, environmental and ethical considerations into account when assessing the financial potential and suitability of investments. Each manager must work positively with companies to promote forward-looking social, environmental and ethical standards, rather than adopting a policy of negative screening of stocks.

· Managers are asked not to invest in stocks that could reasonably be expected to cause embarrassment to the Fund.

Exercise of rights attaching to investments

· Managers have been instructed to exercise the Fund's responsibility to vote on company resolutions wherever possible.

· They have also been instructed to intervene in companies, either by voting or by direct contact with company management, if companies are failing and the Fund's financial interests are jeopardised.

· The Fund believes that if companies comply with the principles of the combined code published by the Stock Exchange, following the Hampel Report on corporate governance, this can be an important factor in helping them succeed; but the Fund also accepts the need for a flexible approach that is in the common long-term interests of shareholders, company employees and consumers. The Fund's managers should exercise their votes with this in mind.

· In particular fund managers should cast the Fund's votes to ensure that:

- executive directors are subject to re-election at least every three years

- executive directors' salaries are set by a remuneration committee consisting of a majority of independent non-executive directors, who should make independent reports to shareholders

- arrangements for external audit are under the control of an audit committee consisting of a majority of independent non-executive directors, with clear terms of reference - these should include a duty to ensure that the level of non-audit work given to auditors is closely controlled and does not significantly exceed their audit-related fee unless there are, in any manager's opinion, special circumstances to justify it

- in the managers' opinion, no embarrassment is caused to the Fund in relation to the Fund's beneficiaries, Hampshire residents or the general principles of the combined code.

· The managers are required to report to the Panel with a full explanation in any case where they do not follow these guidelines.

Custody

· Northern Trust has been appointed as the Fund's global custodian with effect from 1 August 2006 for a seven-year period ending on 31 July 2013, subject to satisfactory performance.

Governance Policy Statement

· Hampshire County Council, as the administering authority to the Fund, has delegated its functions with regard to the Fund to its Governance Committee, which in turn has delegated those functions to the Pension Fund Panel.

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· The Pension Fund Panel oversees the proper administration and management of the Pension Fund. It is responsible for:

- appointing external fund managers and advisers

- making suitable custody arrangements for the Fund's investments

- considering and approving actuarial valuations every three years and determining the level of employers' contributions

- considering changes in pension fund regulations and determining actions required

- considering and approving strategic advice on investment policy

- considering and approving the external managers' investment strategies

- monitoring the investment performance of each manager against their target and benchmark, based on statistics prepared by Northern Trust

- the periodic review of this Statement of Investment Principles, the Fund's Business Plan, its Funding Strategy Statement, this Governance Policy Statement, and the Fund's Communication Policy Statement.

· The Pension Fund Panel normally meets four times each year. There are usually two meetings in the spring and two meetings in the autumn of each year. Two of these meetings, one in the spring and one in the autumn, are used mainly for discussions with the Fund's investment managers, using a report on their strategies and performance prepared by the County Treasurer, any views of the independent adviser, and presentations prepared by the managers themselves. The other meetings are `business meetings', where the Panel considers reports from the County Treasurer, the independent adviser and other consultants as necessary on a range of issues, for example reviews of this SIP, the Fund's business plan, training matters, and proposals for scheme change.

· The Pension Fund Panel is constituted to reflect the views of the County Council as administering authority and the largest member employer with 45% of the contributing membership, the two city unitary authorities with 25% of the contributing membership, the district councils and other employers with 30% of the membership, and the Fund's pensioners and contributors themselves.

· The Pension Fund Panel consists of:

- nine county councillors with voting rights

- one representative of the unitary city councils of Portsmouth and Southampton with voting rights

- one representative of the 11 district councils in the Hampshire County area with voting rights

- one representative of the Fund's contributors with voting rights

- one representative of the Fund's pensioners with voting rights

- one independent adviser/sounding board without voting rights.

Training

· Opportunities are made available for members of the Pension Fund Panel and officers in the County Treasurer's Department to attend training courses and seminars on pension fund matters, when necessary and appropriate. The cost of attending such events is charged to the Pension Fund.

· A training plan for members of the Pension Fund Panel has been implemented.

Use of advisers

· The Panel is advised by the County Treasurer on all Pension Fund investment and administrative matters.

· The Panel is also advised on investment matters by the Fund's independent adviser and sounding board, Mr Harvey Cole.

· The Panel uses the Fund's actuary, Hewitt Bacon & Woodrow (Hewitt), and other consultants as necessary, for advice on matters when in-house expertise is not available. Advice is taken when necessary on asset allocation, manager selection, and investment performance targets from the actuary, the fund managers or specialist consultants or advisers as required.

Communications with fund employers and members

· Each financial year, an annual report on the Fund is prepared for consideration by fund employers at an Annual General Meeting to be held no later than 30 September in the following financial year. This covers the Fund's accounts, investment arrangements and policy, investment performance, Scheme changes and other issues of current interest.

· A leaflet for fund pensioners and contributors is also prepared annually and distributed by 31 October. This summarises the accounts, and the investment management and administrative arrangements.

· This Statement of Investment Principles is published and made available to Scheme employers within three months of any amendment(s).

· Annual benefit statements are provided to contributors and deferred pensioners and an annual newsletter to pensioners.

Membership of external bodies

· The Hampshire Pension Fund is a member of the following external bodies:

- the National Association of Pension Funds (NAPF)

- the Local Government Pensions Committee (LGPC).

Service standards

· The County Council follows best practice as set out in the LGPC circular `Principles of Good Practice for the Management of Local Government Pension

Schemes'.

Review of the Statement of Investment Principles

· This Statement of Investment Principles is subject to review at any time by the County Treasurer, who will report to the Pension Fund Panel accordingly, seeking approval for any changes.

Principles for the management of defined benefit schemes - compliance

Effective decision-making

· The County Council has delegated responsibility for the management and administration of the Fund to its Pension Fund Panel, which reports to the Council's Governance Committee.

· Workshops and seminars are made available to Panel members and County Council officers on investment and pensions matters.

· Detailed investment decisions are delegated to fund managers.

· Advice on asset allocation is sought from the actuary and other consultants as necessary.

· Full briefings on investment and pensions matters are provided to Panel members by the County Treasurer.

· The Panel also takes advice on investment matters from its independent adviser and sounding board, Mr Harvey Cole.

· Panel members are not paid for pension fund work as there is no power to do so under Local Government Pension Scheme regulations.

· A business plan, which includes a training plan, has been prepared.

Clear objectives

· The Fund's objectives are set out clearly in this Statement of Investment Principles.

Asset allocation

· The Fund's actuary, Hewitt, carried out asset/liability studies in 1999 and 2005.

· Bramdean Asset Management also provided advice in 2005 on an appropriate asset allocation for the Fund.

· Advice from both these sources was used to determine the final strategic asset allocation to take effect in December 2006, which should enable the Fund to meet its liabilities and maintain stable employers' contribution rates.

· Advice from both these sources was also used to draw up benchmarks and targets to which the fund managers must work with effect from December 2006.

· The appointment of a tactical asset allocation manager is being considered to keep the agreed asset allocation under review and recommend strategies for adding value to the Fund using short-term changes in overall asset allocation.

· The appointment of a currency overlay manager is being considered to monitor the Fund's exposure to currency risk and recommend strategies for controlling such risk.

Expert advice

· The Fund's contract for actuarial and other advice is open to competitive tender periodically. The current contract with Hewitt runs until March 2010, with an option to extend to March 2015, subject to satisfactory performance.

· Mr Harvey Cole acts as an independent adviser and sounding board to the Pension Fund Panel.

· Bramdean Asset Management assisted the Pension Fund Panel in a review of the Fund's management arrangements, and they have been appointed on a short-term contract to act as an adviser on appropriate alternative investments for the Fund, for example private equity and hedge funds.

· Tenders have been sought for a longer term provider of advice on alternative investments, and to make such an appointment by the spring of 2007.

· Consideration is being given to seeking tenders for the appointment of advisers on currency overlay and tactical asset allocation, in which case it is expected that the appointments would be made by the autumn of 2007.

· Investment managers themselves are asked for advice and new approaches are developed in partnership.

· Little use is made of other advisers as sufficient expertise is available within the County Treasurer's Department.

Clear mandates for the managers

· All mandates have clear objectives and timescales for performance assessment.

· Acceptable levels of risk vary according to the nature of each manager's mandate, and are effectively determined by the agreed targets and timescales for performance assessment.

· There are no soft commission arrangements, and this will be a condition of the new appointments.

Voting rights and engagement

· The Fund's policies on voting rights and engagement are set out clearly in this Statement of Investment Principles.

Appropriate benchmarks

· The Fund's overall target return and the managers' individual targets are set out clearly in this Statement of Investment Principles and in the Annex.

Performance assessment

· Formal reviews of the managers' performance take place twice a year. Additional meetings take place between the managers and the County Treasurer each year as required.

· There is no formal system for reviewing the performance of the members of the Pension Fund Panel.

Transparency

· This Statement of Investment Principles covers all areas as proposed by the Myners Committee and subsequently confirmed by the Government.

Reporting

· The results of the Pension Fund Panel's performance monitoring exercises are published in the annual report for the Fund.

· Key information is supplied to scheme members in the annual leaflet.

· An updated Statement of Investment Principles is published and made available to scheme employers within three months of the approval of any amendment by the Pension Fund Panel.

Annex

Investment management arrangements from 1 December 2006