Kerstin Hessius is one of the best-known names in European institutional investing, with 18 years at the helm of one of Sweden's largest pension funds.
As CEO of Swedish national pension fund AP3, Stockholm — a role she relinquished on Oct. 31 — Ms. Hessius was at the helm of 464.9 billion Swedish kronor ($45.6 billion) in assets as of June 30 and kept the ship steady amid reform proposals and turbulent markets.
Speaking in a fireside chat at the Pensions & Investments WorldPensionSummit in The Hague on Nov. 3, Ms. Hessius — who will take some time off before embarking upon a portfolio career — said two concerns weighing on her mind right now have been spotlighted by liability-driven investment news coming out of the U.K.
As a result of the LDI-induced meltdown in the U.K. government bond market in September, pension fund executives have to focus more on two risks: "One is the risk of building very complex products, and the other risk is liquidity risk," she said.
Long-term investors are "not focused enough on liquidity risks" — which Ms. Hessius believes will be one of the "biggest risks we have in front of us" due to the challenging environment of an end to unconventional monetary policy, geopolitical risks and inflation risk.
Liquidity risk already reared its head in 2020 at the onset of the COVID-19 crisis — a point at which AP3 executives "started to focus quite a lot in our crisis management on liquidity risk. The risk is that we underestimate risk that is not priced during normal circumstances — especially if you are a long-only fund," Ms. Hessius said.
Another risk is around asset allocation and the issue of the denominator effect: With public market returns pulling down exposures, many pension funds have found their private markets allocations to be at all-time highs.
"What we have seen this year is that our alternative portfolio has increased substantially because (of) what's happening in the liquid markets and it's quite unique that both fixed income and the equity portfolio fall at the same time so much," she said.
In the first half of the year, AP3's alternatives exposure rose to 34.1% as of June 30 from 28.8% as of Dec. 31.
That increase has come "with almost no investments," Ms. Hessius said. "And I think most of the pension funds that are quite big in alternatives have seen something in the same (vein) — and the question is, 'How much you are prepared to invest in alternatives when … you have to think about liquidity in your portfolio?'"
AP3 has about 40% of its portfolio invested in listed equities and the remainder in fixed-income assets. The fund is one of six Swedish state pension funds that, during Ms. Hessius' tenure, have been the subject of reform proposals by the government, including a merger — a suggestion that was ultimately dropped. Four of the funds — including AP3 — are tasked with achieving high returns over the long term. Each has different asset allocations to reach their aim.