The European Central Bank’s policy of ultra-low and negative interest rates is generally positive for the investment prospects of Finland’s State Pension Fund (VER), according to the fund’s managing director, though he warned the central bank’s stance could become a major problem for some pension funds in the longer term.
Timo Löyttyniemi, managing director of the €16.5bn pension fund, told IPE: “My approach is that, for a short period of time, it is OK to have low rates, as long as there are no negative shocks in the macroeconomy.
“But in the longer term it could turn out to be a real challenge for pension funds’ fixed income investments.”
Earlier this month, the ECB became the first major central bank to set negative interest rates.
It cut its deposit rate for banks from 0% to -0.1% and its benchmark interest rate to 0.15% from 0.25%, as measures to stimulate the euro-zone economy.
Half of VER’s assets are not directly invested in fixed income, Löyttyniemi said, because the fund has an equity weighting of 40%, while alternatives make up another 10%.
So far this year, however, even though the ECB policy has weighed on interest rates for fixed income, VER’s fixed income portfolio has produced a return of 3-4% in the first five months of the year, which Loyttyniemi described as splendid.
“This will become challenging for the future returns, especially on government bond and credit bond rates,” he said.
Löyttyniemi said he very much understood the ECB’s efforts to get money moving from the banking system to the real economy.
“That is why they have to take these various measures, and they have room to do that as long as inflation remains at a low level,” he said.
However, he pointed to the sudden increase in 10-year US government bond yields seen in May 2013, which had strong side-effects for emerging markets, as an example of how a situation can change unexpectedly.
“That’s a warning for the future, that the change could come quite quickly,” he said, but he added that, for the time being, the pressure was limited as long as inflation rates remained low.
While he said a steady, low-yield environment would not be problem for pension funds that had enough equities in their portfolios – assuming there were no macroeconomic global shocks – Löyttyniemi warned that if it continued for too long there was a risk to the value of assets.
“It is always the case that when a trend continues for too long – especially when it is affected by policy issues – it might become destabilising,” he said.
However, right now, what is lacking in European and other economies is the momentum of growth, and precisely this aspect is being targeted by the ECB, he said.
However, if time suggested the policy was proving ineffective, there would then be an expectation of additional measures, as sufficient growth is the ultimate goal, he said.