Rightsizing contributions and risk 

Gunnar Baldvinsson, Managing director

• Location: Reykjavík
• Assets: ISK168bn (€1.22bn) 
• Members: 40,000
• Open occupational pension fund

In Iceland, employees and employers must pay at least 12% of wages into a pension fund. This is called minimal contribution, where an employee usually pays 4% and the employer pays 8%. In addition, individuals can pay 4% of their wages as a supplementary or voluntary contribution for pension savings. If an individual opts to pay 2% of his salary as a supplementary contribution it is usually matched by another 2% from their employer. This is called additional contribution. 

Almenni’s members can split the minimum pension contribution between a private account (PA) and a mutual insurance fund (MIF). The purpose of the MIF is to ensure a minimum lifelong pension and disability, spouse and dependants’ pensions if a member is disabled or dies. The MIF’s target is to maximise return, given the age composition of members and liabilities. 

At Almenni, one-third of the minimal contribution (4% of total wages) is paid into a PA. Two-thirds of the minimal contribution (8% of total wages) is paid into a MIF. Supplementary contributions (those above the mandatory 12%) are paid also into a PA. Members can start withdrawing funds from the PA at the age of 60.

Splitting contributions between a PA and a MIF helps us maximise DC outcomes for our members. The PA is to build up a private retirement fund that allows members to have flexible pensions as well as providing choice within an investment portfolio.  

For contributions paid into a PA, members can choose between six pre-designed portfolios with different asset allocations. There are a variety of investment choices ranging from a long-term 70% equity portfolio to a short-term, low-risk savings account.   

The pre-designed portfolios Almenni offers are three life portfolios, an index-linked savings account, a short-dated government bond portfolio and a long-dated government bond portfolio. Members can choose a portfolio according to their age or the risk they are willing to take. Furthermore, they can select the Lifetime Track option, Almenni’s lifecycle solution, in which the funds are transferred between the Life Portfolios over time. Almenni recommends the Lifetime Track – the default option for members who do not select a portfolio.

Richard Gröttheim, CIO

• Location: Stockholm
• Assets: SEK280bn (€30bn) 
• Members: 3.2m
• Swedish state buffer fund for the premium pension system

AP7 is the default defined contribution (DC)fund in Sweden’s Premium Pension System (PPM). Swedes pay 18.5% of their salary towards the state pension, and 2.5% of that goes into a DC arrangement. There are some 800 funds to choose from but members can select a maximum of five funds; AP7 is the default fund within the system. 

AP7 offers Såfa, a lifecycle product that combines a leveraged equity fund and a bond fund. Until the age of 55, members’ contributions are invested solely in the equity fund because the time horizon for the investment is long. After members reach 55 the risk is gradually scaled down. Assets are diverted to the bond fund and the risk profile is flattened out until members reach retirement age at 67. 

Because the DC component of the state pension corresponds to just 15-20% of the total, the risk in that investment should be high. The leverage in the equity fund is normally 50%.

The risk in that fund is comparable to that of an emerging markets fund and we aim for a standard deviation of 23-24%. We achieve that by investing in the MSCI All Country World index, which consists of about 2,500 global companies. That index has a standard deviation of around 15%. To increase that, we use a technique based on total-return swaps, which brings the standard deviation up to the desired leverage. That is a smarter way to increase the standard deviation of the portfolio than moving along the efficient frontier, which would take us to an emerging market fund. 

The passive global equity portfolio is outsourced to two managers for the time being and the total return swaps have been arranged with two international investment banks. A small internal team invests actively in the Swedish equity market and the bond fund is managed internally. 

We moved to the lifecycle approach in 2010, which was necessary at that stage since the previous set-up was one-size-fits-all. We think it is important that young members carry a relatively high amount of risk in their DC portfolios. Overall, the risk members carry between their defined benefit (DB) and DC state pension portfolios is small.

Fondo Espero
Francesco Vallacqua, Board member

• Location: Rome
• Assets: €732m 
• Members: 100,000
• Second-pillar fund for Italian school system employees 

Italian occupational pension funds now have to adhere to a strong set of standards in terms of risk management and monitoring. In 2012, Espero responded to the call from COVIP, the pension regulator, to build up internal monitoring capacity. We regularly publish an ‘investment policy document’ which sets out how we are going to maximise our members’ pension outcomes. 

The more recent Decreto Ministeriale 166 introduced important changes in the asset allocation framework, with an emphasis on risk monitoring. However, asset allocation choices will be based on our membership profile, which we are tracking. We are increasing our efforts to understand the needs of our members and their response to what the pension fund offers. In this sense, of communication with members is key, as how well they are informed often influences their pension outcomes. At the regulatory level there are discussions on a new framework that will strengthen communication with members.

From preliminary analyses of our members’ behaviour, we concluded that the lifecycle concept is not yet fully understood. Younger members tend to choose the least risky asset allocation models, whereas older ones choose risky investments. That means it will be necessary to educate members about the concept before we implement any such strategy. Although we are reviewing the asset allocation, for the time being we will maintain the initial set-up, which involves a choice between two vehicles. 

The ‘Garanzia’ vehicle guarantees capital preservation. It invests in high-quality euro-denominated sovereign and corporate bonds (up to 30%); European equities (up to 10%); euro-zone deposits; euro-zone bond, interest rate and equity futures; ETFs, SICAVs and UCITs. The benchmark corresponds to 20% of the Merrill Lynch Emu Government Bills index, 75% of the Merrill Lynch 1-3 Year Euro Government index and 5% of the MSCI Europe index. 

The ‘Crescita’ vehicle, which has a higher risk profile, offers five different portfolios. The overall strategic asset allocation consists of three specialised mandates and a multi-asset mandate, split as: 30% in global equities, 30% in mainly euro-area fixed income, 20% in money market instruments and 20% in multi-asset. The benchmark consists of 20% of the JP Morgan 3-month Cash EURIBOR index, 30% of the Barclays Euro Aggregate Total Return index, 30% of the MSCI World, 19% of the BofA ML 1-3 years Global Bond and 1% of the VIX.

Interviews conducted by Carlo Svaluto Moreolo