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German pension vehicles to diversify - Mercer

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GERMANY - Retirement providers in Germany are likely to maintain one of the lowest equity exposures in Europe as a result of recent market turbulence but will continue to diversify into other strategies, consultancy Mercer has told IPE.

The equity quotas in the portfolios of pensionskassen, pensionsfonds, contractual trust agreements (CTAs) and other pension vehicles were being reduced before the crisis had really begun, explained Herwig Kinzler, head of Investment Consulting at Mercer Germany, but the indications are analysis is being conducted to reduce risk further.

"Some [pension vehicles] had to reduce their risk exposure as their asset level dropped, so that was a regulatory provision. Some assessed the market correctly and actively downsized their holdings, and many already had plans to lower their equity exposure in order to be able to further diversify their portfolio," said Kinzler.

He said the trend among pension funds to further diversify will continue even though a broadly-invested portfolio did not save schemes from losses last year.

He noted the greatest disappointment for many investors was the fund-of-hedge-funds sector, as many funds had promised to make money even in downward markets but then did not.

"Fund-of-fund programmes will now be reviewed very critically, especially with a view to the due diligence process and the manager selection," said Kinzler.

The average equity exposure of German CTA pension vehicles shrunk from 27% to 19% over the last year because some funds rebalanced their already low holdings.

German pension fund performance was affected by the crisis thanks to their, albeit low, equity exposure, but interest rate levels had a far greater impact as around 80% of the combined assets are invested in bonds.

ABV, the pension fund association, confirmed retirement vehicles have "weathered the crisis well" and noted equity levels had already been lowered as early as 2007 but some will not achieve the minimum return of 4%, according to a spokesperson.

Performance figures for the whole of the German market have yet to be released as many pension funds are still in the middle of preparing their 2008 accounts.

That said, the €364m LVM Pensionsfonds revealed to IPE its equity quota had been reduced to a "one-digit figure in early 2008" and remained invested 90% in bonds, although the its annual return was "slightly negative".

CTAs do not have to be fully-funded and have no minimum return guarantee is required, so the fall in the funding level was surprisingly moderate from 71% to 67% over the last year.

"It was less dramatic than expected, because interest rates on fixed income rose, so the liabilities dropped by 5-10% while assets lost 15-20%", pointed out Kinzler.

This will likely to be only a short reprieve as the yields on fixed income are expected to drop further, which will increase liabilities again, and at a time when it is not yet certain when asset levels will increase again.

He noted some funds, such as CTAs, are already going back into equities albeit tentatively either in order to raise their strategic level or as a tactical investment.

Similarly, more and more vehicles are opting to invest in convertibles instead of equities in the current markets, according to Mercer.

"It is difficult to find the right time to go back into the market, and until a clear trend becomes visible funds should opt for convertibles rather than equity," concluded Kinzler.

If you have any comments you would like to add to this or any other story, contact Julie Henderson on + 44 (0)20 7261 4602 or email julie.henderson@ipe.com

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