New Zealand Super (NZ Super), it’s fair to say, is not willing to sit on its haunches.
After a year in which it opened itself up to examination and was found to be operating at the higher end of global best practice, New Zealand’s $27 billion superannuation fund is nonetheless taking stock of its entire operation and looking to develop a new set of values.
Chief executive officer Matt Whineray recently emphasised that everything NZ Super does is driven by the legislative rules that govern the Guardians of NZ Super, the sovereign organisation that manages its various portfolios and interests.
Maximising returns without undue risk is the bedrock of its investment philosophy. In an uncertain investment environment like today’s, where future returns look set to be lower than the recent past, the fund’s internal teams are constantly reviewing their assumptions.
The fund-wide review, carried out this year by consultancy Willis Towers Watson (WTW) with input from the NZ Treasury, suggested that NZ Super should review its investment beliefs, among other goals. This was not an indictment of its existing ones, but for the Guardians to constantly reassess how their investments are managed to ensure NZ Super stays at the top of its game.
This includes the SWF taking another look at its reference portfolio, the passive benchmark that any active listed and direct investments must outperform in order to qualify for investment.
The reference portfolio framework was established in 2010 and the fund is currently undergoing its second five-yearly review. Whineray confirmed the process should be completed by June 2020.
“The aim is to continue to improve and to match or exceed global best practice,” he told AsianInvestor. “That is a measure that is always evolving.”
Today NZ Super is heavily skewed towards equities. As of June 30, 56% of its portfolio was in developed market equities, 11% in emerging market equities, 4% in New Zealand equities and 9% in global fixed income, 2% in other public markets and the other 18% invested in private assets such as timber, private equity and infrastructure.
New Zealand Super has done pretty well with its current setup, so it will be interesting to see how it looks to tinker with it. The fund finished the 12 months to the end of June 2019 with an investment return of just over 7%, and credited active management as “a large driver of value add”.
Its actively managed investments included equities, arbitrage, strategic tilting, real assets, emerging markets, timber and liquidity management.
But while the overall year looks good, it covered a remarkably volatile period, particularly by NZ Super’s standards. The SWF suffered registered losses of between four and five percent in three months in the eight-month period from October 2018 to the end of May this year.
That was a rare run of poor form. Over the previous two years, going back to October 2016, it only experienced negative returns during two months, and lost less than 2% during both.
It’s fair to say NZ Super isn’t panicking, and doesn’t intend to rip up its existing model as it reviews it. David Iverson, NZ Super’s head of asset allocation, pointed out that its returns over the long term have been achieved with a low level of risk.
A commonly used risk-adjusted performance metric, the Sharpe ratio, compares the portfolio returns above cash returns as a ratio of the volatility of returns. The higher the ratio, the greater the return for the risk taken, and vice-versa.
ASSESSING ILLIQUID RETURNS
“Our long-run expectation is that the 80% growth, 20% fixed income Reference Portfolio will achieve a Sharpe ratio of 0.20,” said Iverson. “For the actual portfolio, we expect a slightly higher Sharpe ratio of 0.26, representing an increase in return for the value we expect to add through active investment, adjusted for the risk taken to generate this.”
Those anticipated ratios are well below what the reference portfolio and actual portfolio have demonstrated. The former’s Sharpe ratio has been 1.27 since its introduction in 2010, while the investment portfolio’s realised Sharpe ratio has been 1.42, greatly exceeding an expected ratio of 0.26.
In other words, NZ Super has enjoyed higher than expected returns and lower than expected risk.
This story was taken from a feature that originally appeared in the Winter 2019 edition of Asianinvestor.