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ERAFP to shift strategy after France lifts investment restrictions

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  • Paris, France

The €20bn French civil service pension scheme ERAFP is set to overhaul its strategy after the government reduced restrictions placed on non-bond investments.

The French government will look to legislate for the increase of the allowance of non-bond investments from 25% of assets to 40%.

Expected to take effect at the start of 2015 based on the decree being published this month, ERAFP said the change would be done strategically over the next five years, depending on bond market valuations.

The scheme, set up in 2005 to supplement French public sector pensions, is currently cash positive and expects to receive around €2bn in annual additional investible contributions for 10 years.

However, the current 25% cap placed on all assets outside of bonds and real estate meant much of this had been and would be directed into sovereign debt and European credit.

At the end of 2013, the two asset classes accounted for 51% and 15% of assets, respectively.

Philippe Desfossés, head of the fund, described the announcement as a “dramatic change”.

“We have been asking for this change for six years,” he told IPE.

“Liquidity is not a constraint, and we should [take advantage] of this and invest in illiquid assets and extract the illiquidity premium. Twenty-five percent was a limit that was too low for us.”

Desfossés said equities were an obvious asset class for the fund to expand immediately into, as it made more sense for long-term investors given the return spread over bonds.

The fund will also use its additional freedom to hedge further against inflation and contribute to the growth of the euro-zone and French economies.

ERAFP’s equity allocation is now expected to grow from the current 23.5% level, increasing European stocks and some exposure to non-European OECD countries over the next three years.

The fund also has 1.5% in a multi-asset mandate with Amundi, which Desfossés said exposed the fund to private equity and Japanese equities.

The reduced restrictions could see its multi-asset exposure increase to around 4% by 2020.

Desfossés said the real estate portfolio, currently around 2%, would ideally be between 8% and 10%.

Whether ERAFP reaches the 40% cap by 2020 depends on the interest rate environment and the valuation of the bond markets.

“We are working on the implementation plan, but it depends on the situation in the bond markets,” Desfossés said.

“Should they remain at the current price level, we will invest in other assets, and if interest rates remain level, we would have to speed up the rate at which we shift into equities and real estate.

“The valuation of the bond market is tantamount to the biggest over-valuation ever seen in this asset class.

“Who in their right mind would buy government and euro-zone bonds at 0.7% [yield]?”

ERAFP’s allocations to French real estate will be in addition to its contribution to a Caisse des Dépôts residential property fund.

It will invest in Paris and other major French cities where there is a housing supply shortage for middle-class tenants.

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