​Arkwright warns of AP7’s concentration risk and limited tools to stem downturns

A new report has highlighted the high level of concentration in AP7’s giant equity portfolio, and also pointed out to the Swedish government that the SEK1.4trn (€128bn) pension fund has limited tools to cope with market declines.

In its 2024 evaluation of Sweden’s national pension funds, the AP Funds, produced for the Finance Ministry, consultancy Arkwright raised a range of issues and made several recommendations, including that the buffer funds be given more resources to manage their illiquid asset investments.

In the report, Arkwright – whose work on the AP funds evaluation is led by Mats Langensjö, partner, and Claes Green, associate director – said: “AP7 Equity Fund has a significant concentration in its portfolio, mainly due to its significant exposure to US equities, which constitute approximately 66% of the benchmark MSCI ACWI index.”

In 2024, the big-seven tech stocks accounted for 45% of the index’s total return, with all of these stocks among the AP7 Equity Fund’s top five holdings, which constituted 17% of the total managed capital, the report said, adding that this concentration was a consequence of the fund’s index-based management.

“This increases concentration risk and thus the fund’s vulnerability to market changes, particularly in the event of a decline in the US equity market, in the technology sector or a correction in the valuations of the specific companies.” Arkwright added.

This effect was further amplified by the fund’s use of leverage, it said, and warned that AP7 lacked tools to handle volatility and declines in the market.

“Since market indices were created as a simple and effective method for capturing the overall development of the stock market, they lack the flexibility to adapt to changing market conditions or specific risk-management needs,” the consultancy said.

Generation model

Arkwright also recommended an in-depth analysis of the consequences and effects of the generation or life-cycle model of AP7’s default product, Såfa, which caused returns to be affected by the age category that a saver belonged to, reiterating its concern about an issue flagged up last year.

The generation model is the mechanism by which bonds are added to the allocation mix as an individual saver nears retirement age.

Regarding AP6, the smallest of the five buffer funds which invests only in private equity, the consultancy advised the government to commission an analysis on the consequences of potentially removing the fund’s currency-hedging requirement.

Defined return target for AP2

Among its assessments of the four main buffer funds, Gothenburg-based AP2 came in for particular criticism in the Arkwright report this year, with the firm saying AP2 should have a defined return target, and guidelines for how that should be achieved, but currently had neither.

It also said AP2 did not achieve its long-term return expectation, and recommended a comprehensive review of AP2’s chosen objectives, portfolio strategy and governance and focus on asset management.

Asked to comment, a spokeswoman for AP2 told IPE that in its view, AP2 had a clear goal – that outgoing pensions should be as high as possible.

“We do not share Arkwright’s view that we need to work based on a quantitative return target,” she said.

“Our mission is to be of the greatest possible benefit to the pension system, which does not simply translate into a certain return – we need to consider other factors too, including risk,” she added.

“The fact that AP2 stands out and thinks differently than the Stockholm-based AP funds contributes to diversification and reduced risk in the pension system,” the spokeswoman said.

It was true that AP2’s return had fallen short of its expectations, although not in 2024, she noted, but added that this was part of the background to the comprehensive strategy review AP2 had conducted and implemented in the past year.

“In the light of these changes that are already being implemented, Arkwright’s call for a review of the strategy at this point in time does not make sense,” she said.

However, in its recommendation for a comprehensive review in the report, Arkwright frames such an exercise as a “continuation of the fund’s work to implement a new management model and decision-making structure”.

Other recommendations

Among other recommendations, Arkwright advised that AP1-4 allocated increased organisational resources to managing illiquid assets, saying it was noteworthy that only six to seven people per fund – some 10% of total staff – worked on these investments.

“Investments in unlisted assets are a complex process that places high demands on both internal expertise and sufficient resources in all phases,” the consultancy said.

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