The semi annual report of the giant Norway sovereign wealth fund is testament to its commitment to transparency, unambiguously outlining the half year results which came in 0.04 per cent under benchmark. The fund did benefit from a nearly 15 per cent exposure to tech stocks, but was let down by returns in renewable energy infrastructure.

Norway’s $1.7 trillion Government Pension Fund Global returned 8.6 per cent, equivalent to $138 billion, in the first half of 2024, a result that was 0.04 per cent below it’s benchmark. It’s semi annual report, which outlines the results, is testament to its commitment to transparency with one SWF investor commenting: “it’s a gold standard for transparency and accuracy. No Mickey Mouse creative accounting to disguise lack of real performance”. (See also Why transparency is a strategic initiative for Norway’s SWF).

The fund’s returns were driven by strong equity markets, with equities accounting for around three quarters of the value of the fund. Although the report also outlines the slight underweight in equities relative to the benchmark lost the fund 0.08 per cent in the period.

Real estate and renewable energy infrastructure were a drag on performance.

The fund’s equity investments returned 12.5 per cent for the period, led by technology, financials and healthcare stocks.  About 25 per cent of the equity holdings are in technology stocks which returned 27.9 per cent for the period.

Bank revenues buoyed returns due to the increase in consumer borrowing and health care stocks benefited from major clinical studies and increased demand for innovative treatments and technologies, said Nicolai Tangen, CEO of Norges Bank Investment Management, presenting the results at the Norwegian democracy festival Arendalsuka.

The investor’s largest fixed income allocations are to US (29.1 per cent) Japanese (5.6 per cent) and German government bonds, and euro-denominated government bonds accounted for 12.3 percent of fixed income. The fund’s fixed-income investments also include an allocation to emerging markets, which made a negative contribution to the relative return for the period.

The real estate portfolio is split roughly 50:50 between unlisted and listed real estate investments and managed under a combined strategy. (See NBIM: Listed and private real estate is all the same in the long run).

Unlisted real estate investments are primarily in office, retail and logistics properties and the latest negative return was driven by investments in the US office sector where values have been negatively affected by higher vacancy and a persistently high policy rate. There was also little activity in the market during the period, making property valuations a challenge, the fund stated.

The portfolio was also hit by poor returns in unlisted renewable energy infrastructure (-17.7 per cent) due to poor net income from power sales and changes in the value of the investments, with a higher cost of capital adversely affecting the value of the investments during the period. In the first half of the year NBIM made three renewable energy infrastructure investments with all of its investments listed on its website.

Commitment to voting

NBIM is an active owner and voting is one of the most important tools it uses for excersicing its ownership rights. In another shout out to transparency NBIM publishes its voting instructions five days before the shareholder meeting, and in cases where it votes against the board’s recommendation, it provides an explanation.

In the first half of the year it voted on 90,449 proposals at 8.277 shareholder meetings.

The separation of CEO and chair remains one of the most common reasons it votes against corporate directors. Although NBIM notes improvements in board independence levels globally, it remains concerned by the roles of chair and CEO being held by the same person, most prevalent in companies in the US and South Korea.

“We have long advocated for the separation of chair and CEO and believe that a non-executive chair is in a stronger position to guide strategy, oversee management and promote the interests of shareholders,” states the fund.

CEO pay has been another key area of focus. It voted against around one in ten CEO pay packages, including in the US where NBIM sees pay structures as most problematic and misaligned with long-term value creation.

Its primary concern is the use of one-off awards such as ‘golden hellos’, awards that are paid out over too short a timeframe, or instances where NBIM considers the board had not taken sufficient steps to respond to concerns from shareholders regarding pay in previous years.

The investor also has 1,175 meetings with companies during the period, raising governance and sustainability issues at around two thirds of them. These issues mostly concerned capital management, climate change and human capital.

“We believe that boards are accountable, in their oversight role, for ensuring that companies manage material sustainability risks in their business planning and do not contribute to unacceptable environmental or social outcomes,” it says.

In a new development, NBIM and UNICEF are working together on an initiative to highlight how companies impact children’s rights through their digital activities, hoping to improve corporate reporting in the area.

“We hope that this work will foster discussion and raise the bar on transparency by producing a comprehensive set of child rights-based disclosures in relation to digital technologies that companies can lean on to support their reporting efforts,” said Carine Smith Ihenacho, chief governance and compliance officer at Norges Bank Investment Management.

To produce the set of disclosures, NBIM and UNICEF will take a collaborative approach and consult with a wide range of stakeholders, including companies, academia and civil society organisations, to understand current market practices and identify gaps that may exist. It expects to finalise and publish the set of disclosures in 2025.

“As a global investor in almost 9,000 companies, corporate reporting on sustainability efforts is key to our ability to gauge sustainability risks in our portfolio. This initiative will hopefully enable us as an investor to better understand the efforts companies are making to respect children’s rights in the digital sphere and address negative impacts,” she concluded.

A total portfolio approach aligns investment implementation with the purpose of being a fiduciary, rather than short term or relative performance. Not only that, there is huge upside performance from the approach, the source of which is not what you might think, according to Sue Brake, former CIO of the Future Fund and proponent of the approach.

The return benefits of a total portfolio approach, compared to the historical strategic asset allocation, are not the sum of its parts. It’s much more than that, but the sources of the return are not what you might think, says Sue Brake, former CIO of the Future Fund and an experienced practitioner of TPA.

A recent study by WTW and the Future Fund found that of 26 funds surveyed, those that use a TPA approach added 1.8 per cent pa for 10 years above those using SAA. Brake thinks that’s an underestimation.

“I’ve done some work for a client where I showed them it was 2.4 [per cent per annum],” she says.

Brake, who is now an independent consultant and sits on the high-profile five-member investment and risk advisory panel for the Monetary Authority of Singapore, says TPA allows asset owners to behave long-term, be nimble and innovative in portfolio construction.

The industry is moving away from an SAA mindset where “some ivory tower boffins have decided what the portfolio looks like” and individuals can only make the best of the piece of portfolio they got, she says.

“It’s a very elbow-out, hungry, innovative and efficient [kind of culture in SAA], efficient if you’re trying to optimise the value of that small component.

“But what the total portfolio research is telling you is that the sum of all those efficient components is not equalling the whole that you get when you run it as one portfolio that is more coordinated.”

The extra return, she says, does not come from where people usually think namely, taking on more risk.

“A large chunk of it is coming from being nimble,” she says.

The portfolio dynamism benefits of the systems-thinking TPA approach were also identified by WTW’s Roger Urwin in the asset owner study, particularly given increasingly complexity in global markets.

Crucial for asset owners

Brake says TPA is crucial for asset owners, because they fundamentally operate differently from other investment organisations like an asset manager. Managers work well in silos because they are “paid to worry about beating a benchmark”, but asset owners have more considerations in their purpose and TPA is a valuable tool to implement that.

“Great investment organisations, great asset owners, have got such clarity with their stakeholders, because the foundational law that you have, or whatever other regulatory or mandate guidance you have, cannot do justice to the nuance of the risk appetite and aspirations of the actual owner of the money,” she says.

“You are the asset owner in the sense that you’re managing it on behalf of someone, because you’re the investment expert.

“The whole industry just gets so obsessed with relative performance I think they lose sight of what it is that you’re actually trying to do.”

Brake is of the view that short-termism is one of the most prominent investment angsts.

“There are some situations where competition is a marvellous thing, but there are others where it doesn’t help, and the investment industry is one where it doesn’t help because it forces you to become so focused on not being the bottom that you’re short term,” she says.

“If you’re short term, you now have to rely on skill to beat indices, because the long horizon opportunities are not available to you, and skill is incredibly rare, difficult and expensive.

“It’s just not a game that most of us should be playing.”

In some ways the central banks are great examples of organisations with a clear purpose with their sole focus on an inflation target, Brake says, but they still feel the pressure when knock-on effects such as unemployment start to emerge. That’s not dissimilar to what asset owners are experiencing with the politicisation of their investment processes and the need to invest in, for example, nation-building areas, she says.

“For me, purpose needs to be at the centre of what you’re trying to do – a really clear articulation of it, and a clear understanding of the risk appetite,” Brake says.

“If everything is geared towards achieving that [purpose], then you’ve got a better likelihood of achieving it.

“It’s a philosophical thing.”

The active equity strategy of Denmark’s €23 billion AP Pension – which focuses on a narrow exposure to a small set of high conviction, quality companies – has been hit by the surge in tech stocks, none more so than Nvidia. Investment director Pernille Jessen explains the problem.

Active equity investors convinced they can outperform the market over the long term have found the dominance of tech stocks has made their job harder.

Like Denmark’s €23 billion AP Pension, the 100 year old Danish fund for employees at large and medium sized companies. The latest returns came in lower than the benchmark because the investor doesn’t hold a market weight in the likes of top performing chipmaker Nvidia, and the other high-flying tech shares. The pension fund’s so called AP Active allocation has a five year return of 5.5 per cent and a ten year return of 6.8 per cent but in the first half of this year delivered a lower return than the market.

Apple, Microsoft, Nvidia, Amazon, Meta, Alphabet (A and C class shares), Broadcom, Tesla and Lilly make up the top 10 constituents in the MSCI World Index at the end of July. AP Pension’s largest allocation lies in Microsoft, Alphabet and Novo Nordisk, respectively. Although it also has sizeable allocations to Apple, Meta and chip maker TSMC, it has a much smaller allocation to Nvidia.

Although the investor’s limited exposure to the latest investment boom has dented returns, investment director Pernille Jessen, who joined AP Pension from AkademikerPension where she was co-CIO, has no plans to change her approach.

“It is to be expected that our active investment strategy from time to time will underperform the market over shorter timeframes, and we are still convinced that this is the right strategy for the long run,” she tells Top1000funds.com.

AP Pension’s active equity approach focuses on a narrow exposure to a small set of high conviction, quality companies. She says the strategy has worked historically and is the reason why the fund has delivered a good performance over time. Still, she says it also means it’s possible to miss the “high jumpers.”

Like Nvidia’s surging stock price, responsible for the outsized share of returns in global equities this year thanks to the boom in demand for chips that can train and run powerful generative AI models such as OpenAI’s ChatGPT.

Nvidia’s gains alone have been responsible for roughly a third of the S&P 500’s increase in 2024. In June, the chipmaker passed the $3 trillion market cap and briefly overtook Apple and Microsoft to become the most valuable U.S company.

The take off in AI means equity returns have been concentrated on a small number of companies and an even smaller number of industries, she continues. This has led to dominance of “only one major investment style” that means active investors like AP Pension have lost out.

“Such an unusual environment is a challenge to our active investment strategy,” she says.

The fund is exposed to AI as a theme in its equity portfolio but has chosen other companies in the tech space which it judges have a “more reasonable pricing and better diversified business models than Nvidia.”

“When sourcing companies for our equity portfolio our main focus is on quality, and this is also the reason we’ve been underinvested in Nvidia,” she continues.

Pernille is not surprised that AI related companies have become market darlings, especially Nvidia, which she describes as at the forefront of “developing AI infrastructure and doing so very profitably.”

She compares today’s AI boom to the tech boom in the late 1990’s when the internet took off and believes that AI holds the potential to boost productivity in the service sector, which would be a major gain for economies and (equity) markets.

Asset allocation

AP Pension’s portfolio consists of five asset classes – fixed income, credit, equities, low volatile credit and real assets – and the composition of the portfolio is governed by the desired risk level and diversification.

The portfolio is divided between government bonds (33.14 per cent) investment grade bonds (3.12 per cent) high yield bonds (5.13 per cent) emerging market bonds (4.40 per cent) global shares (33.26 per cent) emerging market shares (2.27 per cent) private equity (2.27 per cent) infrastructure (3.10 per cent) and property (12.6 per cent)

Limits apply to the share of illiquid assets to cap the overall illiquidity of the portfolio. Currency risk is also hedged, she explains. “We view currency risk as undesired and [hedging] allows us to carry more risk in the asset classes.”

The fund doesn’t use leverage in the strategic asset allocation but leverage is embedded in real estate investments and is applied in the tactical asset allocation. The strategic asset allocation is reviewed and decided on a yearly basis by the board.

Geopolitical risk is also increasingly front of mind. She says the fund tries to mitigate geopolitical risks through portfolio construction where the focus is on constructing a well-diversified and robust portfolio. Part of this is to ensure an adequate level of liquidity in the portfolio.

She says that in terms of decision-making the fund is very agile and able to adapt fast if need be. It enables the fund to focus on the issues that drive economies and markets not being distracted by what is most of the time (geo)political noise.

Apart from active equities, recent returns were also dented by the struggling performance in real estate, challenged by the increase in yields on the back of monetary policy tightening.

“The increase in yields negatively impacts real estate with a lag especially fund of funds, and it is in particular our UK focused real estate funds that have had a challenging start to the year.”

The UK real estate market has furthermore been negatively impacted by idiosyncratic factors related to the UK economy and politics. “The UK still suffers from the Brexit decision,” she says.

I don’t know you, so what I say next may not be true … but here goes anyway: your investment beliefs are probably out of date.

If you have revised your beliefs within the last 12 months and have factored in the tsunami of pain that climate change will bring, then please forgive me. You are off the hook.

If, however, your investment beliefs were set five, or more, years ago – when net-zero wasn’t even a ‘thing’ – then I will argue that they need to catch up with a fast-moving reality[1].

In 2022 TAI published a paper titled Pay now or pay later?, which was one of the first papers to argue that climate change was going to hurt portfolio values, whatever we chose to do. Given that kicking the proverbial can down the road appears to be a bankable human trait, we suggested the likely outcome was a rise in temperature of +2.7 to +3C, and a consequent hit to portfolio values of 50-60 per cent.

If that sounds somewhat alarmist consider that “There is a level of warming that will cause a 100 per cent loss of GDP”[2], and therefore a complete loss of portfolio value, even if we don’t know what that level of warming is.

In 2023 we ran an investing for tomorrow working group to delve deeper into these matters. The resulting output was a significantly deepened understanding of climate science, climate scenarios, and the understatement of risk in most of them. In 2024 we ran a ‘sprint’ working group to develop a survey tool that investment organisations can use to determine whether, or not, they need to revisit their investment beliefs.

In addition to a deeper understanding of climate change, we have continued to apply ourselves to the study of systems. We first wrote about complex adaptive systems in 2008 and so have 15 years or so under our belts. We now consider it an idea whose time has very much come. In 2023 we wrote two papers on systemic risk[3], and in 2024, we have launched our systems curriculum to explore the intricacies of interconnected systems and gain valuable insights into how they shape our world[4]. This advance in systems thinking and the assessment of systemic risk is a further argument for a revisit, and possible refresh, of investment beliefs.

So there are two main arguments behind my assertion that most investment beliefs need to catch up with reality: our understanding of climate, systems and risk has taken a big step forward, and, reality is changing rapidly.

To quote from our paper alluded to above, reality “is simply too big and too complex to understand. And so we build models of it, and in understanding the models, we pretend that we understand reality”[5].

Our investment beliefs are a form of model, in that they are a series of statements that seek to explain how (the investment part of) reality works. Unless those statements are freshly agreed it is unlikely they reflect our current (and partial) understanding of climate risk, biodiversity loss, artificial intelligence, interconnectedness and systemic risk.

If we single out climate, then we can also ask whether any public net-zero pledge your organisation has made should also be reviewed. Why? Is it not widely agreed that the world is heading to net-zero emissions by 2050?

Well, on the one hand, it is true that 196 nations ratified the Paris Agreement, which is legally binding. On the other hand, a 2024 survey showed 77 per cent of climate experts (lead authors or review editors of IPCC reports since 2018) believe the world will warm by at least +2.5C[6]. In other words, they do not see the necessary level of action despite it being legally binding. I assume these climate scientists have a better grasp of current climate reality than I do, and so I can use their knowledge to help my own catch up.

In the investment world we then need to translate that knowledge into a form that is more meaningful for our management of portfolios. The expected temperature rise is essentially the same as the scenario I quoted above from Pay now or pay later?, so is TAI’s heroic estimate of a 50-60 per cent portfolio loss (by 2100) our best guide? I was one of the authors of that paper, and we wrote it two years ago. I can’t speak for all the authors, but I know that my own thinking has moved on in that time. I now see systemic risk as a bigger threat than I did back then, and so I would probably factor in the possibility of even bigger losses.

The point here is not what I think, but what you think. I would therefore encourage all investment organisations to ask themselves whether they need to revisit their beliefs and, possibly, any net-zero pledge. We have a survey tool that could help here. I would also encourage everyone to at least check out our systems curriculum materials. As Buddha told us, “what you think, you become” – and we all need to become better systems thinkers.

Tim Hodgson is co-founder of The Thinking Ahead Institute.

The £74.8 billion University Superannuation Scheme (USS) has reported a funding surplus for the first time since 2008, with chief executive officer of USSIM, Simon Pilcher, saying one of the benefits of higher interest rates was it is cheaper to hedge the scheme’s liabilities.

“We took advantage of this opportunity, thus reducing our exposure to interest rates and inflation, which means the scheme is better protected should bond yields fall again,” he says in the USS annual report.

The investor’s 2023 actuarial valuation revealed a scheme surplus of £7.4 billion, allowing lower contributions and the restoration of benefits to pre-April 2022 levels in a turnaround marking the end of one of the toughest period on record for the DB pension scheme.

Less positively, the report also detailed how USS’s losses in troubled utility Thames Water has led to a “serious reflection” on investment in regulated assets in the future. This at a time the UK government is trying to persuade pension funds to invest more in local infrastructure.

“Economically regulated assets should be a good fit for long-term patient investors like USS, particularly where, as with infrastructure, they require long-term investment to address historical challenges,” said Simon Pilcher.

However, he noted that success is dependent on similarly long-term, consistent regulation that recognises the need for that investment and strikes a fair balance between risk and returns over the long term.

“While our overall experience of investing in private markets has been beneficial, we seek to learn the lessons of all our investments – whatever the outcome. Our experience with Thames Water will influence our future approach to investing both in economically regulated assets and more broadly.”

USS remains a shareholder in Thames Water but said that the value of the holding was now “minimal.” Two years ago its stake was valued at £956 million. Further revealing the scale of the losses, he said that since USS first invested in Thames Water in 2017, any profits that might otherwise have been used to pay shareholder dividends were reinvested into the business. “We have not received any dividends or payments of interest on any shareholder loans,” he said.

USS was not alone in this investment with fellow pension funds from around the world experiencing big losses including the Dutch PFZW and BCI and OMERS from Canada (OMERS wrote down its entire 31.7 per cent holding). See Thames Water losses hold lessons on the importance of a comparative view.

Despite losses in Thames Water, USS said private markets as a whole have delivered strong returns to the scheme over an extended period.  Over 10 years to the end of March 2024, infrastructure assets have delivered annual returns in excess of 11 per cent. During the past year the fund exited a number of private investments, generally at favourable prices to where they had previously been marked in its books. New acquisitions included growth-focused private equity, long duration income-generating property assets, and inflation-linked assets like renewables.

Pilcher said that returns across growth assets were generally positive particularly in the US driven by AI-fulled tech stocks. He said the outlook for equities was reasonable, and stated that bond markets are also likely to deliver solid returns now that yields have risen.

The pension fund flagged key risks from climate change and biodiversity loss, geopolitical tensions and the demographic time bomb where fewer people of working age must support rising numbers of retired people. USS employs tools like horizon scanning, scenario planning, diversification, and stress-testing as critical elements to help build a resilient portfolio and respond effectively to events as they unfold.

A developed markets equities team now manages a new £4 billion allocation to a long-term real return mandate designed to provide strong long-term returns at lower levels of risk than the wider equity market. Responsible investment has been built into every stage of the investment process for this mandate. Moreover the low-carbon emissions of the companies owned in the mandate supports the investor’s ambition for investments to be net zero by 2050 meanwhile the concentrated nature of the mandate allows it to hone in on stewardship activities.

Climate planning

USS  has developed four new scenarios in conjunction with Exeter University to better reflect the real-world risks and opportunities that frame climate investment and systemic risk decision making over the short and medium term. The analysis switches the focus away from climate pathways and allows USS to pay close attention to shorter-term changes to politics, markets and extreme weather events when assessing the long-term financial impacts of climate change.

“We took the decision to make this research publicly available for other investors because the real-world impact of climate change could be much greater than previous modelling has suggested. We hope this work will be of benefit to many others and help galvanise real-world action as people understand the costs of inaction associated with the current trajectory towards ever higher temperatures.”

The emissions intensity of the the scheme’s corporate investments is now 39 per cent lower than in 2019 and over half of the reduction seen in 2023 is a result of the  new LTRR equities mandate because the high-quality companies owned in this mandate typically have a very low emissions intensity.

Still the report does flag concerns raised following analysis of the scheme’s investment and advisory performance that covers factors from quantitative risk and return metrics, to qualitative inputs, flagging poorer performance in active management and private markets.

The £30 billion Greater Manchester Pension Fund (GMPF) the United Kingdom’s largest Local Government Pension Scheme is ploughing more money into affordable housing, targeting 30 per cent of its 10 per cent allocation to real estate to the residential sector.

The fund has just invested £120 million in a Legal and General fund that will invest in purpose-built social rent and shared ownership housing (where people buy a portion of a house and pay rent on the rest) that Paddy Dowdall, assistant director, GMPF, says has compelling low risk, inflation-linked income streams alongside measurable impact.

The allocation sits alongside previous investments in the “small” affordable rent sector, where rents are targeted at  30 per cent of tenant’s income and which has similar properties but is not part of the regulated sector.

GMPF has worked with L&G to design the allocation, composition of stock and pricing. “We wanted to make sure it was right for us,” says Dowdall.

A chronic shortage of housing in the UK has resulted in long waiting lists for social housing and young people left priced out of home ownership and Dowdall believes the sector is poised to attract much more institutional investment.

“In the US and Europe, the amount of investment by institutional investors in rented homes is far greater,” he says.

In recent months, Border to Coast, ACCESS and LGPS Central have all confirmed significant expansions of their real estate offering. Meanwhile, LPPI and London CIV have joined forces this year to launch the London Fund, which alongside infrastructure will also invest in affordable housing.

Investing in the social rental sector taps into large and growing tenant demand and constrained supply, he continues. For example, regarding build to rent where properties are built just for the rental market and don’t have targeted rents, he notes the UK’s private rental housing sector is valued at around £1.5 trillion but less than 2 per cent of that stock is build-to-rent compared to about 15 per cent in Germany and 40 per cent in the US.

Tennant demand is also boosted by more people stretching to afford a house and renting for longer. For example, today the average first time buyer age is 34 in the UK compared to 26 in 1997.

Meanwhile, individual private landlords continue to be squeezed out of the market, driven by tighter credit and government policy changes. Buy-to-let investor activity has slowed sharply due to adverse taxation changes including stamp duty and tighter credit, he explains.

“Tax, regulations, and access to leverage will make it much harder for small, private landlords to compete in the sector. There is a clear market opportunity for this provision to be replaced by financial institutions and social landlords.”

Historically, affordable housing in the UK has been financed via public sector housing providers called Housing Associations. Yet these organizations are also dealing with high costs to maintain large portfolios and facing rising construction costs to build new homes. Their affordability of capital is less, meaning social housing is increasingly funded by other forms of capital, says Dowdall.

“You now see a lot of annuity providers in the market.”

The sector offers long-term index linked cash flows. He calls the low net yield “fair” for the risk taken and says GMPF is happy to take liquidity risk given its long-term liabilities.

“Social housing is going to have low levels of voids and rent arears and a high correlation with inflation. The high inflation linkage makes it an attractive investment. It ends up a 6-8 per cent return on an IRR basis.”

GMPF’s seven-person real estate team invest in housing via two different portfolios: a well- established mainstream real estate allocation and a local impact portfolio that includes investments in SMEs and renewable infrastructure where this allocation will sit and where the fund is already financing close to 4,400 new homes which have either been completed, planned or are in development.

Certain real estate sectors may achieve higher yield than social housing, such as higher end residential or office. Yet these investments  carry higher risk because they are linked to the economy. “Occupancy and the level of rent for social housing is not linked to economy doing well in the same way as other real estate sectors giving it diversification qualities.”

GMPF has made a commitment to L&G’s national fund, but Dowdall says the fund would also like to invest to support the Manchester region.

Challenges include problems sourcing affordable homes. It is difficult to buy existing stock or buy new stock at rates that people can afford. The sudden collapse in rental incomes in London due to the Covid pandemic also highlighted another risk.