Asia-Pacific pension funds are pulling back on riskier investments following a miserable 2018 and as they see signs of softening growth, according to a new study by Willis Towers Watson on Monday (September 2).

The UK-headquartered investment consultant noted that Asia-Pacific funds in the top 20 by size saw their combined assets under management (AUM) drop by 4.4% percentage points last year, meaning their percentage of these funds' combined assets fell from 44.3% in 2017 to 43% in 2018.

Asia-Pacific pension funds accounted for seven of the top 20 global pension funds. The Government Pension Investment Fund (GPIF) in Japan remained the largest, with AUM of ¥159.2 trillion ($1.5 trillion) as of the end of March, while both the National Pension fund in South Korea and China’s National Social Security dropped one place apiece to fourth and seventh, respectively. Singapore’s Central Provident Fund in Singapore retained its position as the ninth-biggest global pension fund.

The drop in Asian top 20 fund AUM follows a difficult 2018, in which low domestic interest rates combined with terrible equity performance in the fourth quarter, courtesy in part of the ongoing US-China trade war.

These difficult circumstances were not entirely isolated to Asian institutions. Ten funds of the top 20 stated that their investment returns suffered due to ongoing low interest rates, despite the US Federal Reserve hiking rates by 100 basis points during 2018. In addition, nine of the largest 20 pension funds cited geopolitical tensions as an important element affecting their returns. GPIF, for example, registered its largest ever investment loss in the last three months of 2018.

Overall, Asia-Pacific pension funds saw their AUM drop, causing their proportion of the top 300 global fund assets to slide after several years of expansion. Their percentage of fund assets retreated to 26.2%, ending a five-year steak of growth that had seen their share of total assets hitting 27.3% in 2017.

Source: Willis Towers Watson
Source: Willis Towers Watson

The drop was a departure from recent trends, it was consistent with a global fall. The world’s 300 largest pension funds saw their assets fall by 0.4% to $18 trillion last year, a “sharp contrast” to the 15.1% increase they enjoyed in 2017, according to the latest World 300 research from the Thinking Ahead Institute, a research affiliate of Willis Towers Watson.

The US accounted for the largest number of pension funds in the top 300, with 141. Australia and Japan stood at fourth and fifth, respectively, with 16 and 15 funds on the list. In terms of assets, the report noted Japan had the second largest share of AUM at 11.9%, trailing the US’s 39.8% share of assets.

Jayne Bok, head of investment in Asia at Willis Towers Watson, noted that Asia still had positive factors underpinning its pension funds, but could not avoid macroeconomic issues every year.

“Despite macroeconomic and global trade headwinds, Asia is still a growing region with a young population, and its long-term growth trajectory remains positive. However, we should expect a general slowdown in growth in line with global markets,” she told AsianInvestor. 

This is not without reason as the annualised growth rate of the total value of fund assets in  Asia-Pacific increased by 5.2% during the period 2013 to 2018, tracking behind North America at 5.8%. 

SAFETY FIRST

The report noted that the representative Asia-Pacific pension funds in the top 20 predominantly invested their assets in fixed income instruments and less into alternative assets.

However, Bok said the average allocation figures were skewed by GPIF's size. The Japanese fund is huge, plus its substantial exposure to fixed income also owed to the fact that Japan is “in generally more conservatively invested compared to other countries in Asia", she added.

Jayne Bok
Jayne Bok

However, Bok predicted that Asia-Pacific funds were changing their behaviour. She noted that they had focused on return-seeking strategies over the past five years, even in fixed income where some would look for exposure to high-yield and loans. But increasingly they looked likely to scale back their drive for riskier assets.

“Valuations look a bit concerning [so] investors are now reassessing and, in some cases, moving back the dial on risks, and looking for safety assets,” Bok told AsianInvestor.

She added that she has seen slightly more caution and liability awareness start creeping into portfolios. “The whole trade war and the general jitteriness that we see in the market have prompted greater focus on risk in recent allocations.”

“Generally speaking, the fallback position is going to be government and investment-grade credits,” Bok added.

That said, some funds still need to increase their annual investment yields. Bok noted that the nimbler ones would still look at private credit or credit-related alternative strategies, which would “allow them to move in and out of the cycles more easily”.

INVESTING OVERSEAS

Another sensible development would be for regional pension funds to look at gaining more access to overseas investment instruments to improve their performance. But that’s easier said than done.

“It's a bit ironic because markets where you would expect to see greater need for overseas exposure are often times limited or inhibited in their ability to invest overseas,” Bok said.

Pension funds in China and Malaysia, for example, have been struggling to deploy overseas due to capital controls, she noted.  

Bok added that both countries had experienced weakening currencies and had a desire to protect the domestic market, which has to some extent contributed to these restrictions.

“It's hard to get [approval for an offshore investment] quota in China and there is a lot of scrutiny on any kind of overseas deployment in Malaysia. For these two jurisdictions we’ve seen overseas outflows decrease over the last couple of years,” said Bok.

Meanwhile, pension funds in South Korea in particular continue to hunger for more greater access to foreign assets, as the export-oriented country’s domestic market suffers from trade tensions between the US and China as well as its own with Japan.

Their need to invest more offshore has increased as interest rates in South Korea remain low, causing local bond investments to offer little appeal. “These have led to much greater scrutiny or focus on overseas assets among Korean pension funds,” Bok said.

When asked how pension funds in Asia-Pacific can best improve their returns, Bok said the answer lies in the simplest investment rationale.

“It’s investment 101 that diversification is definitely one way of both protecting portfolio as well as adding additional returns,” she said, adding that pension funds across the region have more room to add alternative assets into their investment portfolios.