The National Social Security Fund (NSSF) in China is likely to grow to Rmb1 trillion ($146 billion) in the next two years and needs to restructure to handle its increased scale, says chairman Dai Xianglong.

One idea being considered -- but not yet approved -- is to transform the fund's investment-management team from civil servants into a new subsidiary run along commercial lines. That would mean it could pay market rates to attract top talent, Dai said yesterday at the Pacific Pension Institute conference for Asian pension funds in Bangkok.

Other steps will include restructuring asset allocation by reducing exposure to fixed income and putting more into alternative asset classes such as real estate and private equity.

Under existing regulations, the NSSF can allocate up to 30% to such illiquid assets, but it has not done so. This is in part because it needs to establish a team of experienced investment professionals to run such a portfolio. One solution may be to spin off a separate private equity unit run as a commercial investment manager, Dai says.

The NSSF also intends to augment its international exposure from the current 7% of total assets to 20% over the next few years.

The question of making the investment team a unit run along commercial lines would be very significant in terms of setting a benchmark for other Asian institutional investors, including private pension funds and insurers. These also tend to be run as traditional bureaucracies, with non-professional executives that rotate in and out, whose goals are therefore more to avoid blow-ups than to take sensible, long-term risks.

Dai says the NSSF has learned several lessons from the global financial crisis. While he is in favour of reducing exposures to bonds and increasing international allocations, he says too many pension funds had too great an exposure to equities. Those with an allocation above 50% were hurt and he says such an allocation is too high.

Moreover, pension funds must be more careful about handling external managers, Dai adds, and make sure they select managers based on sound operations and processes, as compared to those promising higher returns in shorter time periods.

A third lesson is that pension funds should continue to monitor their managers and keep in mind changes in the global economic and market environment, which could require an intervention in their asset allocation or manager choice, he says.

In the case of China, the NSSF is eyeing an expanding role. The country is determined to bolster its social insurance and social security schemes. The NSSF's assets are allocated 48% to fixed income, 29% to stocks (including overseas equities), 18% to unlisted equity of state-owned enterprises (SOEs) and 5% to cash and cash-like instruments.

Year-to-date, it has achieved around a 9% return. Its long-term objective is, at minimum, to beat inflation, which it has so far achieved. But as pension insurance is extended to the rural sector and the NSSF continues to receive new contributions (from the central government budget, from lotteries and from shares of SOE public listings), Dai says it needs to improve long-term performance. And that will require reform of how the NSSF is managed.