Oscar Volder finds trust banks’ key role in managing pension funds’ assets is unlikely to change, even if the range of products and services they offer does
Trust banks’ role in the Japanese pension fund industry can justifiably be compared to that of a spider in a cobweb. Trust banks are probably the single most important counterparty for Japanese pension funds, which puts them in an enviable position.
Japanese pension funds are not allowed to make investment decisions by themselves, unless they have an organisational set-up with sufficient resources in front- and back-office and systems for investment and risk management. The large majority of pension funds is thus driven by the regulations to appoint a trust bank or a life insurance company that engages in investment decisions on the pension fund’s behalf.
Since 1996 it has become possible for pension funds to appoint licensed investment management companies, but here too the trust bank remains trustee, custodian and administrator of the assets.
Trust banks also play a central role in making benefit payments and, by extension, offer actuarial services and rudimentary asset/liability management analyses. As owners of banking licences, the trust banks’ bank books also come in handy to manage cash balances. With the recent broadening in the types of schemes, sponsors and pension funds turn to their core trust bank to consult on the introduction of defined contribution schemes, cash balance plans or other changes to the character of the scheme.
In the sphere of investment management, despite the arrival on the scene of specialist investment houses in 1996, data shows the pivotal role of trust banks remains largely intact: as of March 2005 47.8% of pension assets were managed by trust banks, 38.6% by investment management firms and 13.5% by life insurers. The advance of investment management firms since 1996 has come largely at the expense of life insurance companies, which had a 37.6% share in 1996, whilst trust banks have seen a more limited decline in market share of six percentage points between 1996 and 2005.
Traditionally, trust banks managed most of their client assets in-house, typically running balanced mandates. However the increased specialisation in investment solutions and a broadening of demand by pension funds for alternative products has led them increasingly to offer third-party products. At the same time, trust banks are increasingly focusing on their core competencies and have set up jointly owned subsidiaries fully dedicated to trustee and administration services.
JTSB (jointly owned by Resona Trust and Banking, Sumitomo Trust and Banking and Chuo Mitsui Asset Trust and Banking) and The Master Trust Bank of Japan (owned by Mitsubishi UFJ Trust and Banking, Nochu Trust and Banking and two life insurance companies) now dominate the market for trustee and administrative services to pension funds. Foreign players that entered the Japanese market as trust banks in the 1980s and early 1990s to tap into the pension market now refocus
their investment capabilities into their investment management company while withdrawing from the trust business per se - exemplified by the recent sale of Barclays’ trust business to Sumitomo Trust and Banking.
When offering third-party investment products, the trust bank operates as a gatekeeper, maintaining full fiduciary responsibility and offering those products that have passed its internal due diligence process. This role is not to be taken lightly, as became apparent this summer when some trust bank- intermediated funds of hedge funds turned out to have exposure to a high-profile hedge fund blow-up.
The third-party products offered in this fashion have typically been the more specialised types, such as (funds of) hedge funds and currency overlay. A further broadening of the product suite is taking place to include multi-manager products, specialist 130/30 offerings and also closed end products such as private equity, private real estate and infrastructure.
There does appear to be variety in the partnership model followed from one trust bank to the next. While some appear to deal only with a limited number of third-party providers in close to exclusive relationships, others adopt a much more open-architecture arrangement. Some only deal with outside investment houses where there is a clear demand from clients for a capability that cannot be offered in-house, others are much more prone to unbundling and offer clients the best capabilities available. Even the latter type needs to balance offering choice to clients while avoiding the fiduciary burden of too large a product suite.
Key to the strategy of trust banks is to stay as close as possible to their pension clients and be in a position to offer high-quality investment solutions from a position as trusted adviser. In this respect trust banks are in an excellent position given their central role in everything that goes on within the plan. This position makes trust banks highly sought after partners for investment managers and consultants seeking to win favour with Japanese pension funds.
Conversely, trust banks could develop into full-fledged fiduciary managers. The fiduciary management trend is taking off in countries such as the Netherlands as a result of a recognition of the limits to what can be done in-house, even when investment management is fully outsourced to specialists. It has yet to take hold in Japan and the jury is still out as to whether or not it will. The sub-scale size of most Japanese pension funds suggests there might be interest in outsourcing all but the most high-level parameters of how the pension assets are to be employed. Whichever way it goes, trust banks are bound to play a central role in managing the affairs of their pension clients for the foreseeable future.
Oscar Volder is head of institutional services at ABN Amro Asset Management in Tokyo