While many pension funds have fled to safety in recent months due to the turmoil in global markets, pulling their capital out of equities and into bonds and cash, the Dutch pension giant ABP has not felt compelled to follow that course, preferring to stick to its original strategy, as designed in 2006.
Wietske Blees talks to Ronald Wuijster, head of strategy and research at APG Investments (All Pensions Group, the asset manager responsible for managing ABPs 205 billion portfolio) about the fund’s investment strategy.
With volatility spiking to record highs, major losses across equity markets and real estate portfolios have dented many funds returns. As any other fund, APG, in charge of providing indexed pensions to ABPs 2.7 million customers, all in service of the Dutch government and educational sector, has felt the pain of the market turmoil. While the fund aims to realise a return on investments of at least 7 per cent per annum, the first six months of 2008 saw the fund generate a negative 5.1 per cent return.
This was primarily due to losses in equity and real estate markets, where returns dropped by 14.8 per cent and 8 per cent respectively. However, effective diversification within the fund’s investment portfolio and strong results for its alternative investment categories, with returns on commodities, hedge funds and private equity of 44.1 per cent, 7.2 per cent and 3.0 per cent respectively, cushioned much of the negative impact. Overall, APGs assets under management fell from €217 billion($308 billion) at the beginning of 2008, to €205 billion at the end of June.
Ronald Wuijster, however, is not overly concerned. “We prefer to look at returns from a longer term perspective and if taken over the past 15 years, our returns have been in the range of 8 per cent,” he says. The fund has also entered the crisis from a relatively strong position, with a coverage ratio that stood at 140 per cent at the beginning of the year.
Unlike many other pension asset managers, APG does not see the need to significantly change its course, set out in the fund’s strategic investment plan 2007-2009 (see table). “In principle, we are able to repeat our asset-liability management (ALM) analysis at any stage during the three-year plan to respond adequately to developments in the market. However, aside from keeping a good eye out for new investment opportunities such as distressed debt, we have not made any changes to our asset allocation mix,” says Wuijster.
The 2007-2009 plan is reflective of a number of key beliefs held by the fund’s managers, in combination with the requirements of the new Financial Assessment Framework (nFTK), as enforced by the Dutch regulator as of January 2007.
Central to APGs investment strategy is the idea that a long-term investment strategy increases the potential for higher returns and enables the fund to take on more risk. The longer term approach also means the fund is able to reap the benefits from additional premiums that can be obtained from investing in more illiquid assets and in private markets. The idea is that APG should draw advantage fromits size and its ability to adopt an attitude of patience. To improve its risk/ return ratio, the fund also aims to diversify its exposures as much as possible, across different investment categories, styles and regions. To streamline its allocation process, APG has split its activities across three platforms; equities, fixed income and alternative investments.
Within these individual categories, further diversification of strategies is implemented to increase the chance of higher returns and keep the fundss risks in check. For example, the activities of the equities platform are spread across global thematic, fundamental, quantitative, corporate opportunities and externally managed strategies.
The fund also aims to invest 2 per cent of its assets under management in innovative strategies, designed to reap returns from new developments before the opportunity is discovered by the bulk of the investing public. For example, in February 2008, the fund purchased a range of music catalogues, including Rondor UK, Zomba UK, 19 Music, 19 Songs and BBC Catalogue, from Universal Music Group, a music company with dual headquarters in Santa Monica and New York.
A couple of months later a second catalogue, the classical music catalogue of Boosey&Hawkes, was bought. While it was the first time a fund has ever invested in music catalogues, APG is confident the business is robust and intends to further increase its allocation to the sector going forward. And finally, the fund aims to incorporate environmental, social and corporate governance considerations (ESG) in all its investment decisions.
“We believe that capital markets ultimately take account of environmental, social and corporate governance risks and that this is reflected in share prices,” says Wuijster. At this stage, APG applies this policy to domestic and global equities with a total value of approximately €70 billion, but it aims to extending the policy to other types of investments, such as real estate and bonds.
Meanwhile, the nFTK regulation is built around the principles of market valuation, risk-based financial requirements and transparency. The technical provision is determined by discounting expected future cash flows against the current nominal term structure of interest rates while for the risk- based own fund analysis the requirements increase and decrease in line with the fund’s exposure to standard risk factors. “Of course we are not always enthusiastic about the requirement to mark our assets to market, but there is a strong argument for keeping a close eye on coverage ratios,” says Wuijster.
Placing these requirements and investment beliefs in the context of the fund’s asset and liability requirements, APGs 2007-2009 plan included a number of strategic changes. To increase the fund’s ability to provide fully indexed pensions, the new plan reflected a 4 per cent shift from fixed income securities towards real assets, which provide a better counterbalance to inflation effects. Within the category of real assets; more capital was allocated to private markets at the expense of liquid assets, to reduce the portfolio’s dependence on developments in the equities markets.
For example, its allocation to AlpInvest, in charge of managing the fund’s private equity commitments, increased from 4-5 per cent, while New Holland Capital (NHC) in charge of managing APG’s hedge fund investments, saw its allocation increase by 1.5 per cent to 5 per cent as well. On the fixed income side, the fund has increased its commitments to inflation-indexed bonds. Innovation and infrastructure were newly included and received 2 per cent of assets each and the weighted average interest term was increased to bring the characteristics of the funds assets more in line with its liabilities.
To improve the funds ability to offer indexed pensions at a stable premium, APG has also launched a new investment framework which aims to allow the fund to generate an extra return, on top of the return from a risk-free investment, while remaining within a given risk budget. To meet these objectives, the fund has grouped its assets in two separate portfolios. A liability hedging portfolio is characterised by a minimum mismatch risk investing in long-term index-linked bonds, nominal bonds with inflation swaps, inflation-linked real estate and infrastructure and other liability hedging alternatives, while a return optimising portfolio aims to generate the highest possible extra returns over a 30-year plus investment horizon.
“The liability hedging portfolio is designed to mimic the liabilities which have a duration of around 17 years. In the absence of 17 year Dutch civil service wage index linked bonds, this portfolio aims to slightly outperform core price inflation, to compensate for wage increases, with a medium term investment horizon. The return optimising portfolio looks more like an endowment structure. It has a longer-term horizon and this is where we take larger risks to obtain a better return,” explains Wuijster. The new investment framework is still under construction and Wuijster declined to comment on the intended asset allocation split between the two portfolios.
| Â |
New portfolio |
Old portfolio |
| Real assets | Â | Â |
| Equities developed countries |
27,0%
|
30,5%
|
| Equities emerging markets |
5,0%
|
3,5%
|
| Convertible bonds |
2,0%
|
2,0%
|
| Private Equity |
,0%
|
4,0%
|
| Hedge Funds |
5,0%
|
3,5%
|
| Commodities |
3,0%
|
2,5%
|
| Real estate |
9,0%
|
10,0%
|
| Infrastructure |
2,0%
|
–
|
| Innovation |
2,0%
|
–
|
| Total real assets |
60,0%
|
56,0%
|
| Fixed income | ||
| Index linked bonds |
7,0%
|
4,0%
|
| Government bonds |
10,0%
|
15,0%
|
| Corporate bonds |
23,0%
|
25,0%
|
| Total fixed income |
40,0%
|
44,0%
|
|  |
100,0%
|
100,0%
|
| Duration (totaal) | 8,0% | 4,8% |
| Hedging dollar risk |
100,0%
|
100,0%
|
