The Pension Fund of JTB Corp., a Y150 billion ($1.25 billion) fund for the Japan Travel Bureau, the nation’s gigantic travel agency, has just switched some of its bond fund managers’ benchmark from the Salomon Smith Barney World Government Bond Index  to Lehman Brother’s Global Aggregate Index. In addition, JTB, which has recently restructured its entire investment strategy, plans to replace several of its managers, says Noboru Yamaguchi, managing director and CIO.

It is no small thing when a prominent Japanese pension fund publicizes its move down the credit curve; it means others in Japan will follow, now that a precedent has been established.

The Solly index is considered the leading benchmark for fixed-income investors, particularly conservative institutions such as central banks. Its index tracks only sovereign debt. Its rivals Lehman and also Merrill Lynch, however, are now promoting indices that include various types of credit – corporate, agency and even high-yield.

In JTB’s case, the move is a result of both the changing nature of global bond investing as well as deregulation of pension funds in Japan over the past six years.

The fund was constrained by strict rules forcing conservative asset allocations until July of 1997. Before, its investments were categorized as ‘risk-free’ (65%) and ‘risk’ (35%) assets. It employed seven trust banks, six life insurance companies and three investment advisers managing 125 balanced funds. “It was a very traditional, conservative, low-return allocation,” Yamaguchi says.

Deregulation of investment rules took place in 1995, and by 1997 the fund achieved internal consensus to restructure. It hired a consultant to advise regarding global managers, and went about changing its asset allocation and juggle its managers. After going through several phases, the fund now allocates 18% to a single passive fund manager that also rebalances the asset allocation; it has four global bond managers (40%), six domestic equity managers (30%); four non-hedged foreign equity managers (20%) and three non-hedged foreign bond fund managers (10%). All the insurance companies and all but one trust bank were fired and replaced by specialists.

“This year we have reviewed our structure and looked at our asset-liability matching. We will fire some of our present managers,” Yamaguchi says. Currently three of its six bond managers are foreign specialists and three are Japanese.

Not only are these changes the result of Japan’s evolving pension fund industry but reflect global events as well. Yamaguchi says the foreign bond managers have been urging JTB to invest in credit, citing the declining supply of sovereigns as the US and European governments redeem their debt. The managers convinced Yamaguchi, and last month JTB mandated two of them to benchmark against the Lehman index, while the other two continue to follow Solly’s. 

The rebalancing involved high trading costs and high turnover, but JTB’s managers executed the move in two weeks.

Yamaguchi’s concern is common among Western bond fund managers, but still rare in Japan. He cites Tokyo’s odd-man-out stance in regard to bond issuance: whereas in 1999 JTBs comprised 32% of the global government bond index, it is expected to take up 49% by 2004. Given Japan’s zero-interest rate policy, this imbalance poses a great danger given the likelihood of future rate rises. Although JTB incurred trading and currency losses in 1999 with its switch to global bonds, Yamaguchi says the big picture means it must stick to the course and hedge when possible (75% of his global bond exposure is fully hedged).

Not every Japanese pension fund will be able to take advantage of global opportunities, Yamaguchi notes. The old legal restraints are gone, but this kind of investment introduces country, currency and corporate risks, all of which require a strong organization, excellent staff and expensive systems. “There are different risks we have to face, such as pre-payment for mortgage-backed securities or corporate risk. We need sophisticated fund managers with a deep knowledge of these companies. I hope other Japanese fund managers will be able to catch up to the foreigners. Diversification is a big benefit for pension funds,” he says.