HEERLEN, The Netherlands - Stichting Pensioenfonds ABP, Europe's largest pension fund is restructuring both its investments and its culture.
The fund was privatized Jan. 1. Now, unfettered by legal restrictions, it needs to compete for clients.
By the end of 2000, the 220 billion guilder ($133 billion) fund for Dutch civil servants will boost its equity investments to 80 billion guilders ($48 billion) from 31 billion ($18.7 billion) at the end of 1995.
That's nearly $30 billion that will pour into global equity markets, at least two-thirds of which will be managed by external money managers, who already have been receiving generous chunks of money. (ABP manages most of its Dutch investments internally.)
Within five years, ABP's stock holdings will grow to 30% of total assets - up from 14% in 1995. In 1990 it was 5.5%. Together with a 10% target allocation to property (up from 7% now and 6% in 1990), the fund has a target mix of 40% in real assets and 60% in fixed-income investments.
With two-thirds of the equity investment and three-fifths of real estate investments going outside of Holland, the shift is will unleash a flood of assets into world capital markets.
For 1996 alone, fund officials expect to boost their stock investments to 18% of assets from 14% at the end of 1995, with a little more than half invested in foreign stocks. That represents an 8.8 billion guilder ($5.3 billion) infusion into stocks.
Making participants happy
Located in the southern corner of the Netherlands nears the borders of Belgium and Germany, ABP long has ruled the roost over the pension assets of the Netherlands' civil servants. Conservatively invested, the fund also had been statutorily bound as a major buyer of Dutch government debt.
For the pension fund, the expected hikes in stock investments will be a remarkable transformation. But the fund is undergoing changes in more areas than just its asset mix: Since Jan. 1, the pension fund, formerly known as Algemeen Burgerlijk Pensioenfonds, has been privatized.
Not only does this mean the 74-year-old fund has shed all government investment restrictions that had kept non-Dutch investments to 5% of assets as recently as 1993, but also the organization is changing from a bureaucratic, rule-laden structure that had dictated policy to its participating entities to one focused on flexibility and service.
The key change in ABP's privatization: If participating teachers, police officers, firefighters, judges, local governments and others are dissatisfied with the pension fund, they now can walk away.
Making participants happy has a significant bearing on investment policy. If the level of funding - now 113% - were to drop precipitously, participants would have to boost their contributions.
Fund isn't very rich
Jean Frijns, ABP's chief investment officer and a member of its executive board, said, "We are not very rich, so we cannot afford large setbacks." That is a surprising comment from the world's second-largest pension fund, after the Teachers Insurance and Annuity Association - College Retirement Equities Fund in New York.
Theoretically, a 1% negative surprise in return could result in a 5% increase in the contribution rate, Mr. Frijns noted.
The way ABP deals with potential stock-market volatility is by creating a buffer of up to 30% of the book value of its equity holdings. At the end of last year, the market value of ABP's equity holdings was 31 billion guilders, but the book value was only 22 billion guilders. The additional 9 billion guilders was not counted for purposes of calculating contribution rates.
Thus, a 40% drop in stock-market values would not disturb ABP's contribution rates. As ABP increases its equity exposure, it will need to build up its buffer, Mr. Frijns said.
The fund's moderately positive funding and relative maturity - it paid out 7 billion guilders in benefits in 1995 while receiving only 3.8 billion guilders in contributions - restricts total exposure to real assets at 40%.
In contrast, Pensioenfonds PGGM, the Zeist-based fund that covers Dutch health and welfare workers, can handle its 60% target for equities and property because of its better funding and relative immaturity, Mr. Frijns noted.
Still, ABP wants to get the boost in returns from equities. While ABP officials do not believe equities will continue to deliver the 3% to 5% premiums over bonds they have delivered since World War II, ABP's middle-of-the-road scenario projects an average 3% equity risk premium.
Given today's high valuation levels, it's unlikely equities will continue their remarkable surge unless interest rates plunge by at least another two percentage points, Mr. Frijns said.
Manager mandates
Like many large Dutch funds, ABP officials have decided they want to take responsibility for asset allocation decisions, while hiring external managers to handle specific mandates.
"We have the conviction that the asset allocation decision should be done in-house," Mr. Frijns said.
Because of the fund's huge size and the efficiency of capital markets, however, that has resulted in plans to index 80% of ABP's equity portfolio, while allocating the remaining 20% to active managers.
State Street Global Advisors, Boston, and BZW Barclays Global Investors, San Francisco, have been the beneficiaries of this policy, with each enjoying several passive mandates. ABP manages internally its active and passive Dutch equities portfolio.
Mr. Frijns said ABP wants to develop relationships with a limited number of "core managers" - about 10 to 15 - who can handle multiple mandates, plus another five to 10 specialists.
"I'm not in favor of having a stable of 50 to 60 managers," he said.
Certain firms already are benefiting from the policy. Among the active managers, J.P. Morgan Investment Management Inc., London, manages North American and European equities as well as a global bond portfolio for the fund. Also, PanAgora Asset Management Ltd., London, handles both European stocks and a tactical asset allocation overlay. Rotterdam-based Robeco Group's equity unit runs European equities, while ABP also invests in three Rodamco property funds for continental Europe, Britain and North America. ABP also is the largest shareholder of Rodamco, which is the property arm of Robeco.
Mr. Frijns said ABP prefers evenly splitting its 20% active equity allocations between quantitative managers and traditional fundamental managers within each geographic area.
For example, Barr Rosenberg European Management handles a quantitatively driven Japanese equities portfolio for the fund, while Baring Asset Management has a traditional Japanese stock mandate. Both managers are in London.
ABP officials seek to build relationships with managers over a few years, getting to know them thoroughly. Then they anoint the chosen with massive mandates, managers said.
Stay-at-home bond strategy
In contrast to its two-thirds non-Dutch equity exposure, ABP officials plan to invest only 5% of bond assets outside of Holland by 2000.
ABP officials place a 50% hedge, by rolling over futures, on their total currency exposure. Mr. Frijns said ABP's basic principle is that the fund is not compensated for the currency risk, but is "rewarded for the strength of the guilder," as reflected in interest-rate differentials.
If ABP were to increase its global bond exposure, it probably would have to boost its hedge, he said. But an increase in foreign bond exposure appears unlikely: Mr. Frijns said global bond markets "are so integrated you do not give up anything by investing" in Dutch bonds.
The only major change he would like to see is increased use of fixed-income derivatives, which would enable fund managers to change duration more quickly. That project is on the drawing boards.
For some time, ABP officials have been contemplating implementing a tactical currency overlay for part of the fund, but Mr. Frijns said the program is not a high priority.
Observers tend to believe government pressure keeps ABP heavily invested in Dutch bonds. While Mr. Frijns acknowledges the giant fund has a commitment to Dutch markets, he observed the fund held only 35 billion guilders in Dutch government bonds at the end of 1995 - only 3.5% of the outstanding issues.
At the end of 1994, nearly half of ABP's bond portfolio was invested in Dutch central government and local government obligations, while the remainder was invested in government-guaranteed loans to building corporations (socially-oriented organizations which build and rent houses), loans to banks, corporate debt, mortgages and international agency obligations.
Alternative investments
ABP's privatization also has enabled ABP officials to pursue some esoteric investments. ABN-AMRO Asset Management, Amsterdam, recently was hired for an emerging markets mandate, with an emphasis on Pacific Basin stocks, ABP's first foray into the area.
Also, ABP executives decided to invest 1% of assets in private equity, through venture capital funds. The fund has made its first investment in a Dutch venture capital fund, while it is starting to look abroad for other opportunities.
While ABP's main focus is on retaining the strategic asset allocation decision, officials also are experimenting with tactical asset allocation overlays. PanAgora has been running a trial program for the fund since 1994.
Meanwhile, ABP officials are implementing an internal tactical asset allocation program for under 1 billion guilders. For its strategic benchmark, fund officials are biased toward Dutch stocks, giving them about a one-third weighting, while including a slight bias toward equal weighting for global equities.
Mr. Frijns added the fund officials plan to raise real estate investments to 10% of assets, from 7% now, but would not be disappointed if the figure ended up between 6% and 8%.
While many funds worldwide have soured on real estate, Mr. Frijns said the asset class still offers diversification opportunities. What's different from five or 10 years ago, however, is ABP now looks to real estate to provide income. With the shortening lifespan for properties, capital gains are becoming less important, he said.
The desire for income also led ABP to emphasize North American properties: of its 40% non-Dutch property weighting, fully 65% is to the United States and Canada, while only 35% is allocated toward Europe (ex-Holland). The income component from European properties, especially in Germany, is "ridiculously low," Mr. Frijns said.
In addition, the U.S. real estate market has become increasingly securitized, which is why ABP hired Cohen & Steers Capital Management Inc., New York, and ABKB LaSalle Securities Ltd., Baltimore, last year for real estate securities mandates.
Proof is in the pudding
Since the privatization, ABP is more subject to competitive pressures. Last year, it returned 16.4%, exceeding its estimate of The WM Co.'s Dutch pension fund universe. (WM officials declined to reveal performance data for 1995.)
In 1994, the fund also outperformed the universe because of its strong bond weighting and shorter average duration, losing only 1% compared with a 3.3% drop for the average Dutch fund. In 1993, however, its low equity weighting hurt it: it returned only 16.5%, compared with 21.7% for the WM universe.
For the three-year period ended Dec. 31, 1995, ABP chalked up a 10.3% annualized gain, compared with an estimated 10.6% annualized return for the universe. Overall, the fund lost 60 basis points annually on asset allocation but outpaced the average fund by 30 basis points on stock selection, Mr. Frijns said.
He said the WM universe is not the fund's benchmark; the fund measures its performance against its own strategic benchmark and seeks to beat other funds on stock selection.
With Holland starting to move toward defined contribution plans, especially to cover enhanced benefits and early retirement benefits the state no longer provides, ABP will have to be more flexible to meet the needs of participants.
Already, the fund is offering participants the capability to supplement their pensions, through a joint venture with OHRA, an Arnhem-based insurance company. The fund also is improving its systems - creating the ability to put all customer data online - and risk-control capability.
But Mr. Frijns sees the future still having a defined benefit core, which he believes provides the best benefits for participants, ringed by defined contribution satellites. "We still think the defined benefit system in its essence and its form will survive," he said.
