More Than Its Fair Share
Judge’s comment: “Rigorous approach to decomposing equity return factors based on well-established theory and sophisticated use of derivatives provides a cost-effective solution.”
The €12.1bn SEB Pension traditionally offered only guaranteed defined contribution plans but over the last 10 years the non-guaranteed products have gained more and more in market share, with equities playing an important role in the investment strategy.
To ensure SEB Pension remains a leading institutional equities investor, the scheme revamped its equity portfolio during 2014 to allow for better and quicker decision-making, greater transparency, fewer costs, easier risk budgeting and a detailed understanding of the underlying return drivers in the portfolio.
The ambition is to take advantage of leading academic research and employ state-of-the-art portfolio management techniques. The portfolio is divided into three distinct building blocks: idiosyncratic (alpha) returns, conventional market risk (beta) and alternative risk premia. Given the efficiency of conventional market risk, diversification and cost vigilance provide the largest marginal benefits of active management.
To combat implementation costs and reduce tracking error, the portfolio is predominantly implemented with equity derivatives. Surplus capital is invested in the cash-plus portfolio that invests in low-risk short-term mortgage bonds, AAA-rated CLO bonds and similar instruments. Dividing the portfolio in this way isolates the purely equity-derived component from the interest-bearing component. The combined portfolio receives a return enhancement with minimal risk and no market commonality.
Complex reweighting exercises have gained popularity in equity investing but SEB Pension believes these are an inefficient approach to tilt portfolios towards specific risk premia. To isolate these premia, SEB Pension constructs an alternative-beta block entirely from delta neutral long-short strategies. This allows the scheme to identify optimal risk premia to measure both inter- and intra-covariation as well as to evaluate its performance.
The portfolio is divided into systematic and structural components. The former consists of strategies that are expected to have positive, systematically harvestable returns over the long run, while the latter consists of opportunistic trades that arise in heterogeneous markets and asymmetric conditions.
The portfolio consists of factors such as size, value, momentum, and merger and beta-arbitrage strategies. To achieve an edge in a crowded space, SEB Pension has actively pursued a more intelligent method of implementation and harvesting more advanced risk premia such as implied versus realised correlation. The portfolio is constructed through a set of factors that is designed to captures risk equity premium in certain asset classes, including derivates.
SEB Pension considers alpha strategies to be those that cannot be quantified or systematically replicated and where manager expertise is essential. As this can become very expensive, the fund’s external mandate has been optimised to ensure it chooses the best-in-class managers at a competitive cost whereas the internal alpha mandate is more event driven, which is less predictable in a purely quantitative model.
SEB Pension’s tactical mandate is implemented through equity managed futures. The aim is to generate attractive absolute returns regardless of the direction of the market. The strategies include relative and directional bets based on a proprietary co-integration framework, aimed at exploiting short-term price discrepancies. Thus, with very low market correlation, the mandate is very attractive in terms of diversification.
Research has found that investors hold inefficient portfolios because of benchmarking. By tailoring its benchmarks for each portfolio, SEB Pension can mitigate any bias and portfolio components can be evaluated more suitably. The fund believes this offers it a superior equity management model as it grants it a comprehensive understanding of what drives its performance and underlying risk exposures. Consequently, it is more readily able to position and reposition itself optimally as market conditions change, or to rescale individual strategies without either jeopardising other positions or adjusting the overall equity exposure.
Founded in 1872
Defined contribution multi-employer pensions company
- active: 208,000
- retirees: 53,000
- one year: 12.9%
- Equity portfolio divided into systematic and structural components
- Tactical mandate implemented through equity managed futures
- Tailored benchmark for each equity sub-portfolio
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