Denmark’s pensions funds are growing so fast that they are keener than ever to look outside their own stock market for investment opportunities. But strict investment regulations keep them largely hemmed inside national borders.

In 1995, Danish pension assets were estimated at around Dkr750bn ($115bn). By now, that is thought to have rocketed to around Dkr1,000bn, and experts predict even faster growth over the next few years.

There is a trend to go into foreign investments,” says Jens Peter Tranberg, director of the secretariat of AMPR, the national pensions association. This is not just because the home stock market is too small to accommodate the huge investment force of the pension funds. “This is also a matter of diversification.”

According to InterSec Research, the proportion of Danish pensions assets invested abroad is forecast to rise to 11.4% by 1999 from 7.7% in 1994. But, under the Danish Insurance Business Act, which governs pension fund and insurance company investments, pension schemes have to match at least 80% of all liabilities with assets in the same currency. They are not allowed to get around this limitation by currency hedging.

Ole Block, manager of pensions actuary SB Aktuar, says the Danish stock market is not big enough to sustain the rapid growth in pension scheme assets: “The Danish stock market is too small. Funds have had to look abroad, and they are doing so.”

International equities, though only accounting for a small proportion of the average pension fund asset mix, were the best performing sector over the 11 years to 1993, yielding 14%, according to data from PDFM. This average annual return was closely followed by domestic bonds at 13.1% and domestic equities at 13%.

Denmark is one of three European countries where pension assets exceed the domestic equity market capitalisation. The others are Ireland and the Netherlands.

Investment restrictions in Denmark also dictate that at least 60% of pension scheme assets must be held in “low-risk assets” - defined as government bonds, low-risk loans to Danish banks, property and mortgages of up to two-thirds the value of the property. This leaves only 40% of the asset mix that can be invested in instruments classed as higher risk. These include Danish and foreign equities, unquoted investments and loans up to the full value of a property.

Bonds traditionally make up an even larger proportion of pension scheme assets than the law dictates. According to the most recent asset allocation figures collated by William Mercer, Danish pension funds held an average of 67% of assets in domestic bonds, with a further 1% in foreign bonds. Within Europe, the other Scandinavian countries, Portugal and Spain had similarly high bond weightings, while UK funds only had an average of 8% in both domestic and foreign bonds. On average, Danish pension funds held 17% of assets in domestic equities and 5% in foreign stocks (see chart).

Most in the industry say the shift in asset allocation patterns towards equities will continue - at least as far as it can within the law. “This is partly due to the basic theory that equities do better than bonds, and partly because equities are not taxed in the way that bonds are,” says Block.

Bond yields are artificially stunted in Denmark. Legislation enacted in 1983, the Real Interest Tax, ensures that bonds do not yield more than 3.5% plus the prevailing rate of inflation. Any yield in excess of this is taxed at 100% to bring the net return down to this level. This has naturally made bonds a far less attractive investment for pension funds, and increased the appeal of equities. Stock dividends are not taxed in Denmark, and neither is share price appreciation.

But the limit on stock weightings means there is very little room for equity holdings to increase. Recent share price rises mean many funds have drifted towards the limit without actively taking on more equities.

But equity weightings vary greatly from pension fund to pension fund, says Michael Willumsen, chief financial officer at PFA Pension. “We have no problems with the rules because we are nowhere near the limit,” he says. “It is my impression that this goes for all the major life insurance companies in Denmark, but some of the smaller ones could be approaching the limit.”

If Danish pension funds are already growing out of their home investment territory, the situation is likely to get even tighter over the next few years. Millions of krone in new contributions are due to flow in, as more blue collar workers participate in private pensions and as their contribution level is stepped up.

Before 1989, about half of Denmark’s blue collar workers were not covered by private pension schemes. This is slowly changing, and contributions to the new labour market funds are set to increase over the next few years to 9% of salaries, including employers’ contributions, from around 5.5% now.

Apart from being covered by social security pension benefits, all employees are required to contribute to ATP, a large public pension fund to which employers also contribute.

Nationwide or industry-wide pension funds exist to provide additional arrangements for professionals such as nurses, teachers and lawyers. Then there are the new labour market funds for blue collar workers.

Corporate pension funds are rarer, and tend to be limited to subsidiaries of multinationals operating in Denmark, such as Unilever and Shell. There are also individual underwritten pensions arrangements, a form which some of the corporate schemes have now taken.

“We presume that pensions savings have passed the Dkr1,000bn mark… and expect at least Dkr100bn more every year,” says Block.

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