Norway should replicate CPPIB with Government Pension Fund Global — review

The Norwegian Ministry of Finance and Norges Bank Investment Management should look to Canada for inspiration on how to better manage the Government Pension Fund Global, according to a review by three international experts.

Andrew Ang, the Ann F. Kaplan professor of business at Columbia Business School; Michael Brandt, Kalman J. Cohen professor of business administration at the Fuqua School of Business at Duke University; and David Denison, former president and CEO of the C$219.1 billion (US$201.6 billion) Canada Pension Plan Investment Board, Toronto, were appointed to conduct an in-depth review of the Oslo-based 5.2 trillion Norwegian kroner ($870 billion) sovereign wealth fund.

They recommended that the fund should take more risk and should adopt a cost management model that was pioneered by the CPPIB.

The fund reduced its exposure to risk in 2009, following the global financial crisis. By doing that, Mr. Ang said the fund had “likely (missed) out on opportunities to increase returns through a more balanced approach,” according to a news release.

In the review, the experts wrote that the opportunity cost model “represents a compelling alternative to traditional asset class portfolio construction and investing.” The model uses a consistent and coherent framework to analyze and benchmark investment decisions across private markets and some parts of the public markets.

Under the model, the asset owner chooses a reference portfolio to provide scalable and low-cost, passive exposures to equity and bond indexes. That portfolio sets the amount of systematic risk that is necessary to achieve the fund’s objectives, and the asset owner also sets out investment constraints. Investment beyond the reference portfolio is assigned to the fund’s money manager and the fund’s board.

“The focus of active management becomes the component of returns that cannot be obtained in public market investments as captured in the reference portfolio benchmark,” the experts wrote in the review. “This raises the bar and accountability for active management … in the opportunity cost model, the manager is free to take any deviations from the reference portfolio based on a fair-valuation outlook, rather than being forced to maintain positions when the asset class valuations are very expensive or cheap.”

The added value of active management can then be measured since all these positions are benchmarked against the zero-cost passive stock and bond exposures in the reference portfolio, according to the review.

However, the review notes that the model is “challenging to operationalize.” It could be adopted in in stages,” and should initially be implemented in the fund’s real estate program.”

Spokesmen for the Norwegian Ministry of Finance and NBIM could not be reached for comment by press time.