China’s $200 billion National Social Security Fund is tipped to make greater use of external asset managers and boost foreign exposure as it wins more portfolio mandates from provincial governments. It has also been criticised by the country's National Audit Office for its approach to index investing.

The proportion of NSSF assets managed by external managers rose to 46% last year from 41% in 2012, according to its annual report, released on Monday. This was flagged as a trend last year by ex-chairman Dai Xianglong, who also forecast that the fund would hit Rmb5 trillion ($806 billion) in AUM by 2020.

Of the state pension fund's Rmb1.24 trillion in assets, Rmb109 billion – almost a tenth – comes from a mandate from the Guangdong government, which allows for equity exposure of up to 40% and investment into overseas markets and alternative assets.

More mandates are likely to come from provincial governments, and if they follow Guangdong’s lead, NSSF's use of external fund houses and overseas exposure, particularly to US and European equities, will rise further, said Ivan Shi, senior manager at Shanghai-based consultancy Z-Ben Advisors.

In the next five years, NSSF's AUM will be split equally between in-house and external managers, he estimated.

The fund reported a total investment return of 6.2% last year, down from 7.01% in 2012. NSSF's average return since it was set up in 2000 was 8.13% as of end-2013. Around 30% of the investment return of Rmb68.6 billion came from equities.

However, the fund reported index investment losses totalling Rmb6.9 billion between 2010 and 2013, of which Rmb1.47 billion came last year, according to the National Audit Office’s audit report released last week. The report said the NSSF’s index investment horizon was too narrow, and that running the investments in-house was partly to blame for the poor performance.

The fund said on Monday that the investments were in big-cap indices such as the SSE 50, which fell 38% from 2010 to 2013, including by 15% last year alone.

“From the audit report, it sounds to me like the NSSF did not build up an index product, but only bought securities to replicate the return of the index,” a Shanghai-based ETF analyst told AsianInvestor.

From 2008, the NSSF has not disclosed its index investment holdings. It started making index investments in 2005.