The €1.5bn employee pension fund of Dutch pension giant APG has reduced its investment risk to protect its funding ratio during the transition period to the country’s new defined contribution (DC) system. After its DC transition, APG will take on considerably more risk, according to the fund’s so-called implementation plan.
All pension funds aiming to make the switch to DC have to publish an implementation plan and send to regulator DNB for approval. The APG staff pension fund has been the first scheme to do so.
According to its implementation plan, the fund increased its interest rate hedge to 80% by purchasing additional interest rate swaps. At the end of November, the fund’s equity risk was then also temporarily reduced by 35%. Both changes will be in effect until 1 January 2025, when the fund will switch to a new DC arrangement, which will include a solidarity buffer of at least 5% of assets.
“This decision makes us lose some upside potential next year, but we consider this acceptable as it also limits the downside risk to the funding ratio,” said the fund’s president, Tinka den Arend.
The funding ratio stood at 122% at the end of December. APG’s staff fund aims to make the transition with a funding ratio of around 120% so that there will be enough money to fill its buffers and increase pensions.
€1m in transition costs
The pension transition will cost APG’s staff fund about €1m, or €211.40 per participant, according to the scheme’s implementation plan.
The costs, which will be incurred between 2022 and 2024, will mainly go on project support and consulting, data management and a programme manager. The APG staff fund is the first pension fund to disclose its pension transition costs.
APG chief executive officer Annette Mosman earlier mentioned a total amount of €250m to €300m for the transition of all pension fund clients.
APG’s staff pension fund does not expect to get a definite answer from its sponsor about the management costs of the pension arrangement until the second quarter of this year.
In its implementation plan, the fund wrote that it would have liked to have already had more insight “into the exact consequences of the change of system for the costs” because these costs “are of great importance for the future of the fund”.
Equity risk has been reduced by selling part of its emerging market equity holdings, because the fund wanted to invest less in these under the new system anyway.
In addition, futures on developed market equity indices were also sold to reduce the equity risk for developed market equities. As a result, the pension fund is expected to switch to the new DC system with a slightly lower funding ratio than it would have had if it had not implemented these protections.
“But the risk of a funding ratio below 105% has now been greatly reduced while the chance of having a funding ratio not much lower than the current level on the transition date has been boosted,” according to Den Arend.
More risk
Under the new arrangement, the APG staff fund will increase risk: the allocation to the return portfolio will be 14.3 percentage points higher than it is now. According to Den Arend, this is in line with “the higher risk preference and higher risk appetite of younger participants. An advantage of the new system is that it allows targeted allocation of risks and returns by age, allowing younger people to take more risk than older people”.
Equity risk for credit risk
Within its return portfolio, in turn, equity risk will be exchanged for credit risk. The latter category “is seen as relatively attractive, both because of the attractive risk-return ratio and the diversification it offers compared to equity risk,” said Den Arend.
In practice, this means that the portion of the allocation to emerging market equities that was sold in November will be reinvested in emerging market bonds starting next January.
The APG fund also cited “the outlook surrounding the China-Taiwan conflict” as a further reason for reducing its allocation to emerging market equities during the transition period.
As part of the switch from equity risk to credit risk, the pension fund is also swapping its allocation to private equity for alternative credit. The pension fund decided back in 2020 to completely phase out private equity investments, mainly due to high fees.
APG itself continues to invest in the asset class on behalf of other pension fund clients such as ABP and Bpf Bouw.
The pension fund is keeping open the possibility of additional commitments to alternative credit fund managers during the transition period.
Inflation-linked bonds sold
In addition to private equity, the APG employee pension fund is also saying goodbye to inflation-linked bonds. According to Den Arend, these do not fit well with its new pension arrangement as returns on offer are too low.
This article was first published on Pensioen Pro, IPE’s Dutch sister publication.
No comments yet