Norway’s hard-pressed life insurers and pension funds have enjoyed a brief respite over the past year. This has been provided by the Norwegian stock market which, helped by rising oil prices, has strongly outperformed international equity markets.
Norwegian equities rose 25% in the first nine months of 2004 and 120% over the past two years. One effect of this unexpected bonus has been to increase the proportion of equity in the average portfolio of Norway’s life and pension funds, traditionally heavily invested in bonds. They have increased their average equity holdings from 13% to 15-20%.
However, asset managers are under no illusions that this will continue. Egil Sjursen, country manager for Nordea Investment Managers in Oslo, says: “Norwegian equities have outperformed international equity markets by 40-50% over the past 18 months. That is clearly not sustainable in the long term. We think that the oil price has gone high enough and that the Norwegian market has factored most of it in by now. Over the last 20 years the Norwegian market has performed in line with international markets and we expect it to fall in line again.
“We expect 2005 to be a very different year for the investors because at some stage the level of interest rates has to go up. The transition period when rates go up will be difficult because investors don’t get decent returns from their safer investments.”
This presents a problem. Norwegian life insurers and pension funds are traditionally invested in bonds. Most have 80-90% of their portfolios in fixed income. Yet currently a 10 year bond pays between 3.5-4% – hardly enough to meet the annual guaranteed interest rate of 3-4% that they must provide.
Some have sought the solution in a core-satellite strategy that is heavily dependent on held-to-maturity bonds, says Sjursen. “Investors are looking for some risk again but above all a higher degree of stability. They are using held-to-maturity bonds to reduce risk on one part of their balance sheet and then taking some more risk on the other part.”
A handful of the largest Nordic insurers, notably Storebrand, have taken the core satellite concept to its limits by separating their alpha and beta portfolios entirely. The driver is the need for better risk control, says Hans Aasnæs, investments director of Storebrand Investments, the asset management arm of life insurer Storebrand. “In the kind of low return environment we are in using your risk budget efficiently is probably the most important thing you can do. We now start with a total risk budget where we decide how much is alpha risk and how much is beta risk, and then we build up the portfolios.”
Storebrand has moved its whole investment policy by having a beta portfolio, where we invest only in index funds. The group managing the beta portfolio concentrates on quantitative asset management – currency hedging, cash management, take on take off portfolios.
“We then allocate part of the risk to active risk in what most would call a hedge fund strategy but which we would call alpha satellite strategy. And we try to keep those alpha products as market-neutral as possible.
“The life insurance company makes all the risk control decisions, mainly by adjusting the beta portfolio, and we make all the market decisions.”
Aasnæs says the benefits are better risk control and greater transparency. “Splitting up alpha and beta makes it much more visible whether the portfolio managers themselves are creating value.”
Storebrand has had to go outside Norway to create alpha satellites. Its global tactical asset allocation, global fixed income and forex products have all been set up in Luxembourg. It expects to have four equity satellites in place by the end of the year.
Norwegian insurers and pension funds may be willing to take more active risk, yet diversifying into higher-yielding fixed income assets can be costly, largely because of Norway’s draconian capital adequacy regulations.
Caspar Holter, senior partner at Pensjons & Finans consultants in Oslo, says the problem is that in Norway reserve requirements corresponding to the BIS rules for banks (8% of risk-weighted total assets) apply to pension trusts.
“If you go into credit bonds in Norway, the risk weight is 100% for industrial paper compared with 0% for government bonds and 20% for banks. So although investors want to take more risk, they come up against the high reserves requirements. And after the stock market disaster of 2002
not many have free reserves to spend on reallocation to credit risk in the bond area.”
There is little prospect that the regulators will relax their stance. However, Holter suggests that pressure for change may arrive indirectly with the implementation of the second Capital Adequacy Directive.
Another route for investors is real estate investment. Until now investment in real estate has been dominated by the five large life insurers which have 10-15% of their portfolios directly invested in property. Most of Norway’s 100 pension funds have no real estate investments, other than in property owned by their sponsors.
However, this may change: in July, Aberdeen Property Investors in Oslo launched a Norwegian real estate fund aimed medium sized pension funds and other institutional investors. Espen Klevmark, managing director of Aberdeen property Investors in Oslo, says “There had not been any regular real estate funds in Norway until this year. So this is in effect the first real estate fund in Norway as we understand them in Europe.”
The API fund was launched as a blind pool, a commingled fund that accepts investor capital without specifying property assets. The portfolio will be invested in office buildings in Oslo, and shopping developments throughout Norway. Already 12 institutional investors have invested in the API. “At the moment we have raised e150m in total size of committed capital, of which half is already invested as of 1 November. We expect the rest to be invested before the end of the year,” says Klevmark.
Whether real estate will provide the active risk that pension funds seek remains to be seen. But at least it offers an alternative in an investment culture that is still firmly rooted in fixed income.

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