S Korea: pension fund looks overseas for higher returns

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South Korea’s state pension fund is entering riskier waters as it plans to allocate more funds to equities while reducing the weighting of bonds to boost investment returns.

Expansion into riskier assets has become inevitable for the National Pension Service to meet growing public pressure to boost its returns amid concerns that the fund could face a shortfall in coming decades with Korea one of the world’s fastest-ageing societies. The fund is targetting a 6.1 per cent annualised return over the next five years.

The world’s fourth-largest pension fund with about $359bn in assets said it would boost its stock investment from 26.7 per cent of its portfolio last year to more than 30 per cent by the end of 2018 while cutting its 65 per cent exposure to bonds to 60 per cent.

But the NPS reported an investment return of just 2.46 per cent in the first three months of this year, much lower than its target, due to weak stock market returns. The country’s Kospi stock index has fallen about 5.3 per cent so far this year amid heavy foreign selling as investors worry about the negative impact that a weaker yen would have on Korean exporters’ earnings.

Therefore, increasing the overseas exposure is also a must for the ballooning fund to avoid becoming something of a whale in a small pond. It plans to raise the weighting of overseas equities from 8 per cent to more than 10 per cent of its portfolio over the next five years while more than doubling its exposure to foreign bonds from 4.6 per cent to just under 10 per cent.

The NPS is also keen to increase alternative investments as it seeks to diversify its wealth reserves beyond the domestic market. The fund has emerged as an active player in global property and infrastructure markets in recent years, as economic downturns in advanced countries opened a window of opportunity for the cash-rich pension fund. It has bought HSBC’s Canary Wharf headquarters in London, Berlin’s Sony Centre, a shopping center near Paris and an office building in Sydney in recent years while buying a 12 per cent stake in the UK’s Gatwick airport and investing Won1.2tn ($1bn) in Colonial Pipeline, a US oil pipeline operator. The fund plans to increase alternative investments to more than 10 per cent of its portfolio by the end of 2018 from 8.4 per cent last year.

Experts say the NPS is going in the right direction in terms of its portfolio diversification but they stress that it should improve its management expertise first if it does not want to see its new focus on riskier investments backfire. The fund, still under the government supervision, should change its governance structure to make its fund management more independent and professional but that is unlikely to happen any time soon, given the fund’s current role, similar to that of a sovereign wealth fund in other countries.

The Korean government is keen to keep the NPS in the role of a supporter of the local stock market, especially at volatile times such as these. It has also been a strong financial backer for local companies’ overseas acquisitions. So although it may take a while for the pension fund to gain public trust on its push into riskier assets, with an aging alternative there aren’t many other options.

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