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International: Pension funds increased their positions in foreign investment to 31% of total assets in 2014

8 October, 2015
  • Pension funds are the biggest savings channeling instrument. At US$ 37.6 billion worldwide, they are the biggest institutional investors, surpassing sovereign equity and insurance funds.
  • In Holland, the United States, Canada and Switzerland, the assets of the pension plans are more than 100% of domestic GDP. The average ratio of pension plan assets to GDP is about 75% worldwide.
  • In 2008, the investment in foreign assets was 25% of the total assets of pension plans, increasing to 31% in 2014.
  • Holland and Finland are the countries with the most aggressive foreign asset placements worldwide, with 76% and 74% respectively.

The pension funds are increasing their positions in assets outside their borders on a global basis, according to the Luxembourg Association of Investment funds (ALFI, for its acronym in French), which recently published a global report on pension funds called “Beyond their borders: evolution of foreign investment by pension funds,” and produced by PwC Luxembourg.

The report examines the critical role played in the global economy by the pension funds, which have now become the biggest instrument for channeling savings in developed and developing countries.

Pension plans currently comprise vital financial resources for millions of people. In fact, in some countries pension plan assets are more than 100% of the national GDP. For example, pension fund assets in Holland are 197% of GDP, in the United States 146%, in Canada 142% and in Switzerland 117%. The average ratio of pension plan assets of to GDP is 75% worldwide.

The study highlights the fact that individuals must make increasingly greater efforts to transform their financial assets into retirement income, and identifies the rate of population aging as one of the main challenges facing pension schemes: due to longer life expectancy combined with low birth rates, governments are switching from traditional defined-contribution structures to defined-benefit structures, which are more sustainable over time.

Another factor that the study addresses is the need for diversification in pension plans, in both asset class and geographical exposure, with investment in foreign assets being one of the most effective ways of achieving diversification objectives. Either through teams specializing in international investment, association with fund managers with knowledge of foreign markets, or investing in funds with exposure to foreign assets, the latter offer greater liquidity, are highly regulated and facilitate the possibility of having global exposure while diversifying risk among hundreds of companies, sectors and countries.

“The study provides greater clarity regarding the global investments of pension funds, demonstrating the opportunities offered by global investment, and how some markets are approaching it. It also explains how the regulations vary by country. It particularly highlights how regulatory restrictions affect the proportion of assets that pension plans can invest in foreign investment or investment funds, and examines the impact this can have on their growth,” says Denise Voss, Chairman of ALFI.

The report also summarizes the 29 countries with the largest pension plan markets, and explains the growth of the pension funds at a global level, the distribution of assets at a regional level, and foreign investment in pension funds.

Growth of the pension funds

Compared to the growth of global assets, pension fund assets amounted to USD 37.6 billion, attracting the highest volume of institutional investors worldwide, ahead of insurance company funds and sovereign equity funds.

It highlights the volume of assets under management achieved by the pension funds in the North American region, which was USD 27.2 billion in 2014, compared to USD 15.8 billion in 2008, with a compound annual growth rate of 9.5%. In the same period, the Asia-Pacific region grew from USD 1.8 billion to USD 3 billion, with a compound annual growth rate of 9.3%. The European region, on the other hand, increased its assets from USD 3.3 billion to USD 6.9 billion in those six years, at a rate of 13.2%.

Asset allocation

Regarding the global distribution of assets of the pension funds, the report reveals a predominant bias towards equities, with 44% of the total assets invested in shares, 28% in bonds, 26% in alternative assets and 2% in the currency market at the end of 2014.

At a regional level, North American pension funds invested 48% of their assets in shares, 22% in bonds, 29% in alternative assets and 1% in the currency market. Alternative assets were the ones with the highest compound annual growth rate of 13.5% in the period, followed by equities with 11%, and bonds with 3.9%, while the compound annual growth rate was – 2% for currency market assets.

In the Asia-Pacific region, 46% of assets were invested in equities, 40% in bonds, 7% in alternatives and another 7% in the currency market at the end of 2014. The most significant changes occurred in equity, since the assets invested in shares increased at a compound annual rate of 21.4%, whereas the allocation to bonds dropped to -1.4% in the period.

Regarding the allocation of assets in Europe at the end of 2014, 37% was in equities, 34% in bonds, 24% in alternative assets and 5% in the currency market. The compound annual growth rates of assets were quite even; bonds grew by 14%, shares by 11%, alternative assets by 13%, and currency market products by 12%.

In terms of absolute growth, the asset class that most grew globally in pension funds investment portfolios was alternative assets. In fact, the total amount assigned to alternatives grew from USD 4.4 billion in 2008 to USD 9.7 billion in 2014, an increase of 117%.

Foreign investment of the pension funds

As a result of a greater need for diversification, foreign investment of the pension funds of most OECD countries (excluding the United States) grew significantly in the six year period covered by the study. Whereas foreign investment was around 25% of total pension assets in 2008, this percentage increased to 31% in 2014.

“The unique feature of the pension funds of focusing on long-term investments, allows them to absorb short-term volatility while addressing market and liquidity risks by means of diversification – with one of the most effective means of diversification being exposure to foreign investment,” says Dariush Yazdani, a partner at PwC Luxembourg.

In the North American region, international investments remained at an average of 16% over the entire portfolio in 2008, reaching 21% in 2014. Europe maintained an average of 32% in 2008, increasing to 34% in 2014, with Holland, Finland and Portugal investing the highest percentages of their pension funds in international investment in the last six years. In particular, foreign investment reached 76% of the total portfolio in the Dutch pension funds. The Asia-Pacific region, on the other hand, was the one with the highest increase of foreign assets in its pension funds, from an initial 19% in 2008 to 31% in 2014. Hong Kong and Japan are the most aggressive foreign investment investors in Asia, with Japan increasing its allocation of foreign assets from an initial 16% in 2008 to 32% in 2014.

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