Japanese pension executives are rethinking their core equity allocations as they strive to better manage the volatility that has worked against them for the past two decades without giving up too much in the way of investment returns.
Like their counterparts in the U.S., that goal has left pension executives in Japan abandoning home-country bias — all the more aggressively for the local stock market's seemingly unending skid — and studying whether non-capitalization-weighted equity indexes can offer smoother returns.
A growing minority, meanwhile, has begun arguing that a focus on higher tracking error and concentrated equity portfolios could allow Japanese pension executives to help themselves while helping to revitalize the Japanese economy and stock market as well.
A re-examination of the way core equity portfolios are constructed is one major fallout of the “Lehman shock” that upended stock markets three years ago, said Hideo Kondo, asset management director for the $1.2 billion pension fund of DaiNippon Ink Corp., Tokyo. Mr. Kondo and others cited in this story were speaking at Pensions & Investments and Nomura Securities' fifth annual global pension symposium in Tokyo, Nov. 15-16.
Mr. Kondo cited growing interest in alternatives to market capitalization weighted indexes, including fundamental and minimum volatility indexes, as one ripple effect of that reconsideration of equity allocations.
Executives of some sizable U.S. and European pension funds said they've already begun moving aggressively on that front — to good effect. Stuart Odell, assistant treasurer, retirement investments, for Santa Clara, Calif.-based Intel Corp.'s $11 billion in retirement assets, said that following more than a decade focused entirely on passive long-only equity exposure, his team moved to an active stance for more than half of its multibillion-dollar equity allocation starting in 2005, “with one twist:” a switch “from cap-weighted indexes to low-volatility strategies ... a significant change” for Intel, he said.
Jaap K.H. van Dam, managing director, strategy, with PGGM Investments — a Zeist, Netherlands-based pension administrator overseeing more than e109 billion ($145 billion) in retirement assets for roughly 2 million health care-related employees — said his team has moved more than e10 billion, or roughly 40% of its liquid equity exposure, to “alternative (minimum variance, quality and value) equity benchmarks that we have created in-house.”
Such changes have helped shave roughly 20% from the PGGM portfolio's downside capture, he said, noting “we added 4.5% of outperformance” during the miserable quarter for global equity markets that ended Sept. 30.
If equity market volatility has occasionally haunted U.S. and European pension executives over the past decade, it's been more like one long nightmare for their Japanese counterparts, who've seen the Tokyo Stock Exchange first section Japanese equity index drop from over 2,700 in early 1990 to just under 750 this month, bringing the index's decline for the current year to roughly 19%.
Amid rampant pessimism about Japan's economic prospects, aggravated by demographics that point to sharp declines in the country's workforce over the coming decades, Japanese pension executives have been shedding the last vestiges of home-country bias in their equity allocations.
A growing focus on downside risk, of preparing for worst-case scenarios, has prompted Japanese pension executives to continue moving away from domestic equities, noted Akihiro Nakamura, chief strategist and head of the asset-liability matching strategy section of Japan's Pension Fund Association, Tokyo.
According to data compiled by investment consultant Towers Watson & Co., domestic equities accounted for 16.2% of the average Japanese pension fund portfolio by the end of 2010, down from 34.7% a decade before.
Over that same period, Towers Watson's data show domestic bonds jumping to 41.9% from 31.5%; international bonds rising to 14.2% from 9.6%; and cash/alternatives climbing to 9.2% from 3.9%.