The Netherlands: ‘Our first duty is pensions’
Given its close association with its asset manager PGGM, it’s an odds-on bet that PFZW, the Dutch pension fund for the healthcare sector, will renew its contract every six years. But the terms are not necessarily a foregone conclusion.
PGGM, which manages assets of over €140bn for pension funds including those of PFZW, came into being at the beginning of 2008 in its present guise, at the same time as APG was created by the ABP pension fund.
ABP and PGGM were the last two Dutch pension funds to formally separate their pension foundation from their investment and admin istration activities and spin the latter off into a separate business.
Last year, PFZW renewed its contract asset management with PGGM for another six years but this time it has separated the contract out into three elements – asset management, fiduciary management and policy advice.
Since the board of PFZW now sees the need for a greater level of strategic advice, PGGM has been charged with adapting its own organisation to create an independent advisory department for pension fund clients.
The new contract formalises the relationship between PGGM and PFZW for another six years, but there is much work still to be done as the two parties agree a new asset management framework.
The whole contract involves all elements, including deliverables, but a service level agreement is agreed each year, and the two parties periodically discuss costs and other requirements.
The fiduciary and policy advisory sub-contracts will be agreed this year and a further contract for administration in 2015.
“Last year we started this project with a blank sheet of paper,” says Peter Borgdorff, managing director of PFZW. “What should your investment policy look like in the future when you have €100bn? Last summer we established a framework for the investment policy to 2020 and within this policy framework PGGM has come up with a proposal for multi-year investment plan because we are aware that the issues are different than they were before the crisis.”
This policy framework contains three elements: the first is the ambition of the pension fund, to which the asset manager must contribute. Second, the policy must contribute to sustainable growth and, third, it must be comprehensible and manageable. PGGM will present the multi-year investment plan this summer and it will be implemented in 2015.
Things will certainly change, Borgdorff says, but slowly and surely given PFZW’s sizeable assets.
PGGM is certainly no traditional asset manager. However, PFZW still thinks it can and should better understand its needs. “In the past, the asset manager told the pension fund board what we need to have, what the risks and benchmarks are, and how to compose the portfolio,” says Borgdorff. “The board was responsible but was rather distant. I think times have changed and the crisis of 2008 has taught us that it shouldn’t be the asset management industry that tells you what to do – you should have your own conventions and convictions. If you do, then you place the right demands on the asset provider; the policy advisory will help us to express our demands.”
Asset management can be benchmarked – against return ambitions or external benchmarks, while the overall performance of the manager can be measured in terms of the funding ratio of the pension fund. Administration services can be assessed and benchmarked. But how does a pension fund measure the success of policy advice? Borgdorff sees the answer in terms of satisfaction.
“It’s not so easy to give a figure of your satisfaction,” he concedes. “But it is really a figure of satisfaction not a benchmark and there is no outperformance fee for advisory. It is about whether they understand what we want to say, and whether they raise the right questions. The board has to raise the right questions and you have to ask them to raise the right questions for you.”
Borgdorff also sees the need to do the “right thing” in terms of asset management costs, which, he says, will present new challenges as the new multi-year investment plan develops.
PFZW’s board doesn’t get directly involved in the pay and bonuses of PGGM’s staff. Although it recognises the need to pay the right people to do the job of meeting the pension expectations of its members, costs are an important focus and PGGM must deal with PFZW’s desire for lower fees overall; as part of its drive for transparency, PFZW was the first pension fund to present all asset management costs in its annual report.
“Our deal with PGGM is that we pay an outperformance fee on a five-year-term, rolling-average basis, but we have decreased the bonus in total and are now on 50% of what we started with,” explains Borgdorff. “We believe in a good salary and a good fee for PGGM.”
Indeed, PGGM is working to lower variable staff bonuses, which Borgdorff says will take some time. Having now disposed of its interest in Alpinvest, the private equity firm it previously co-owned with APG, PGGM has started to build up its own private-equity investment capabilities but faced the issue of remuneration here too. Instead of replicating the salary and bonus structure of Alpinvest, PGGM has opted for what Borgdorff describes as a “new and sustainable” remuneration structure.
“We asked for it and PGGM designed it. As the largest client of PGGM we do have some influence.”
Similarly with external asset managers, there are now new key performance indicators designed to lower costs for PGGM’s external asset managers. These will be negotiated on a case-by-case basis as each contract comes up for renewal and the whole process will take some time.
“Sometimes you have to conclude that it’s not so easy to change the world,” Borgdorff concedes. “We are a large pension fund but we don’t rule the world.”
If a manager does not agree to lower fees, PGGM will look to the alternative of investing elsewhere with the same expected return. “But at the end of the year the total of external fees should be lower than the previous year and that is the policy for coming years.
Along with other Dutch pension funds, PFZW has come under criticism for not investing more in the domestic economy (the overall level of investment is 14%, according to a survey conducted by the regulator, the DNB).
Borgdorff has gone on record to say his fund would invest “with somewhat forced enthusiasm” in the Dutch government’s proposed mortgage bonds. “We are not free as a pension fund from this pressure. If you bid you are seen,” Borgdorff notes. “One of the risks you have to take and to deal with is your licence to operate in the community. Our first duty is to take care of the pension but I understand the question about what you do for society. You are part of society, your contributions of €5bn a year come from society.”
One or two per cent extra in the domestic economy won’t hurt the risk-return profile of the fund, Borgdorff says.
But if soft pressure turns to hard legislative requirements, he adds, the principles of prudent person investing as stipulated in the IORP Directive should be upheld. “Our first duty is to take care of pensions,” the managing director concludes.