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Sweden restructures

Progress in the Swedish market can be summed up by two acronyms – PPM and AP. The Swedish government has ordered a shake-up of the pillar one AP funds that will likely be complete at the beginning of the new year. Sweden has also embarked on the ambitious PPM plan whereby employees contribute 2.5% of their income to a choice of over 450 funds. Funds under the PPM system have begun taking delivery of assets and by mid-November around a third of the estimated Skr56bn (e6.5bn) had been allocated.
Those choosing not to select funds will automatically end up in the default fund, the 7th AP fund. Initial estimates of its likely share were as high as a third of all contributors but according to Alex Inkerpol, an academic in Stockholm, the share may be as low as 10%. Still, the fund has ‘attracted’ the almost Skr800m and is the largest in the PPM system.
Says Richard Grottheim, executive vice president at the 7th fund: “The politicians have given us a goal of trying to get as good performance as the average fund in the PPM system, and that we should do this with as little risk as possible.” Grottheim has worked with Watson Wyatt on asset allocation and the fund will invest up to 85% in equities and 14% in Swedish index-linked bonds “The 7th AP Fund is cheap and professionally managed. 80–85% in equities is quite daring, more like a UK pension fund and this is probably quite a wise decision,” says Jan Waage, managing director of Sweden’s Wassum consulting. Both consultancies KPMG and Wassum were recruited at the outset to help set up the PPM system.
More amazingly, every fund in the PPM catalogue has attracted funds. Waage says the initial belief was that a third of the eligible funds would end up attracting nothing, a belief that has since been disproved. As a result, PPM has given some of the smaller, more obscure managers a welcome share of the market. Around half of the 70 investment managers offering funds are foreign but to date their share has been a disappointing 4%.
AMF, Sweden’s largest pension fund with Skr210bn in assets, up from Skr192bn last year, has benefited greatly from the PPM system and senior vice president Sten Kottmeier says brand recognition has played an important role in the fund’s success. “Identification of the brand name is an essential factor behind what the individual chooses and we have done a lot for the identification for the name in the last two years… I have to admit we’ve done better than expected but there are three weeks to go,” he says.
Before 1998, AMF had a monopoly on blue collar pensions but their share dropped to around 70% after banks and insurance companies were allowed to compete. There’s also a clear correlation between low fees and popularity as the top 10 funds have some of the lowest annual charges.
PPM has not only been a success but is fundamentally changing the investment landscape in Sweden. According to Waage, it is driving the banks and insurance companies to change their approach. “If the PPM is a success people will move out of banks,” he says. Just before the allocation to PPM funds Waage said that if 60% of Swedes exercised their option to choose, the scheme would be deemed a success; 70% would be a great success. Indications show that take-up might be as high as 90% and banks and insurance companies face two options. Either maintaining the status quo or setting up their own fund supermarkets.
Skandia has offered numerous funds for a long time and SEB Handelsbank and Foreiningensparbanken All offer fund supermarkets. Sweden’s retail fund market totals around Skr900bn, 85% of which is held by banks. If the initial returns are anything to go by, this holding will invariably fall. “It’s very interesting to see how more funds are going to insurance companies rather than banks. This is a big chance for pension funds and insurance companies to take market share in Sweden,” says Kottmeier.
SEB is offering around 20 funds on the PPM system, including specialised tech, internet and pharmaceutical funds. Assets under management now stand at Skr70bn and inflows for the year are Skr5bn. Nils Jutterstrom at SEB Asset Management says Swedes have a tendency to invest in equities, with over 5m of the population owning some type of equity. Initial contributions to the PPM funds suggest Swedes have a relatively healthy appetite to risk. “Swedes tend to place a lot of money into funds and shares and I think they are willing to take quite a lot of risk,” says Jutterstrom.
Just as radical as the PPM system is the restructuring of the government’s pillar one pension system. Under the old set-up there were AP funds numbered one to six, each specialising in certain investment categories – equity, fixed income, private equity etc. The new infrastructure already set up merges the original AP funds one to three, specialising in fixed income, to produce the new AP fund number one. The original fourth fund, specialising in equities, has kept the same name and the old fifth fund, also an equity fund, becomes the third. Under the old approach, the sixth fund invested in private equity and will continue to do so but as a separate entity. Sweden’s government is setting up a new second fund.
Assets from the original funds are being pooled and split four ways giving each new fund about Skr140bn at the outset. According to Grottheim, the government made the decision to restructure over two years ago and the shift should create a more stable system.
The decision to set up four identical funds is seen as a political issue. Planting Skr560bn in one fund was considered as too powerful and as one local manager believes, almost tantamount to nationalising the Swedish economy. Under the new arrangement, the government has assured the heads of the four funds they will be autonomous. There’s also an imbalance in the new funds. The AP fourth fund, for example is full of qualified equity managers but lacking in fixed income managers and the newly-created second fund is short of managers. According to the same local manager it would make sense to distribute the existing managers into these funds but the government is leaving this to the discretion of the head of each fund.
On the institutional side, equities are replacing bonds at quite a rate, as in Finland and Denmark. “Typically equities stood at about 30–40% last year. This year it’s between 40 and 50%,” says Jutterstrom. In addition to consolidation on the institutional side, foreign managers are trying to poach business from the local managers and pan-Nordic institutions. SEB recently lost Per Lundquist who was appointed by UBS to launch an office in Stockholm. Jutterstrom says that the UK and US managers have been competing in the larger mandates and those with a high proportion of global equities.
SPP, Sweden’s largest financial services group, has put its life and fund businesses on the market. Also for sale are two affiliates – Euroben, the Ireland-based joint venture between Storebrand and SPP Life, and Norben, the Guernsey-based pensions and life group owned by Storebrand, SPP and Finland’s Sampo. A valuation is unknown but the Swedish press has speculated that SPP Life could fetch anything up to Skr5bn and the deal should be completed by the end of the year. SPP’s strong performance in the PPM system – three funds in the top 20 – should appeal to potential buyers.
But the local manager standing out is Carlson, which has won over 50% of new mandates in the past year. Even competitors concede the group has performed particularly well. “Carlson has a very good track record with Swedish equities,” says SEB’s Jutterstrom. P O Ost, head of institutional marketing at Carlson, says the company has picked up 65 mandates worth a total $2bn in the 20 months to August. Ost says the merger with Skandia hasn’t slowed business in the slightest. Investment philosophies at the two companies are similar and, according to Ost, the approach has remained the same, only the operation now has greater resources. Prior to the merger, Carlson managed Sk35bn and Skandia managed Sk270bn.
There has also been a shake-up on the benefits side with a noticeable shift from defined benefit schemes to defined contribution schemes. This move has been led by the municipalities and local government who have moved from central to individual funding. According to Jutterstrom, the shift is a mutual understanding between the unions and the employers and the municipalities are handing over the risk to the employees. “The unions are happy because the individual gets their own money,” he says. Employees get to choose what to do with their funds and the system is similar to the PPM system. And 18 months ago blue collar workers switched to a defined contribution system. “The change this autumn is dramatic for future pensions,” says Wassum’s Waage
On the consultancy side there has been much activity. William Mercer this year closed its investment consulting arm in Stockholm, unprofitability being the reason given by Ola Larson, head of Mercer for the Nordic region. One of Mercer’s biggest coups was winning the mandate to help the 7th Fund on its manager selection, but Larson says such a project requires expertise from the London office. One manager laments the closure. “Mercers was actually doing well and it’s a shame they’ve shut. There’s a lack of portfolio managers at the consultants as it’s hard for them to pay the right money,” they say.
Mercer’s loss is local consultancies’ gain. Anneli Enquist, Mercer’s head of consulting, has moved to Wassum where she joins Mats Langensjo, head of investment consulting and Enquist’s predecessor at Mercer. Johan Heden has joined Trevise Asset Management and Stephan Fredreksson has moved to SEB Asset Management. As in Denmark, the larger funds are using consultants, as are the local government funds (though rather out of a sense of necessity than anything else – it’s the first time). Another Swedish consultant, Sverker Lindstrom, founder of Lindstrom & Partners, now boasts of 12 “large institutions” as his clients. One local requesting anonymity said Lindstrom, formerly at Wassum, has perhaps the best contacts and reputation within the consultancy market.
Margins for managers have fallen further over the last year. “Competition in the market means Stockholm has one of the lowest basis points for institutional asset management in the world,” says Jutterstrom. Lindstrom believes foreign competition and falling margins will cut the number of funds on offer.
Many managers still do a lot of their management in house but the percentage outsourced has risen and continues to do so. Much of this is a side effect of diversifying into equities and more elaborate assets. “People now realise it’s hard to juggle a portfolio with only one man,” says Lindstrom. “People realise it’s hard to carry out stock picking from Stockholm if you are interested in having Japanese and American stock at the same time,” he says. Ost agrees, saying greater exposure to foreign assets is a good reason for managers to outsource. “It’s a world-wide trend but it’s also effecting this market too,” he says.
There are some notable exceptions to this, though, a good example being the AMF fund, which manages 99.5% of its assets in-house. Kottmeier says it has avoided investing in Japan and concentrated instead on telecom and financial sector assets in Sweden, the US and Europe. Doing so has maintained the fund’s average annual return of 15.7% during the 1990s. “We’ve had decent performance and we haven’t found any reason to change the decision to outsource,” says Kottmeier.
According to Lindstrom, indexing is set to increase greatly as Sweden only has about 10 managers offering passive services. Hand-in-hand with this is a greater awareness of benchmark selection. “The role of benchmarking is much more important than it was. Just a few years ago people didn’t care about benchmarks, they didn’t even have a benchmark,” he says. The decision by the AP funds to appoint passive managers for large swathes of their assets is an incentive to offer indexing. “This is an opportunity for Swedish managers to build up an indexing industry,” says Ost.
Sweden’s year has been one of restructuring, one that has restructured the state provision and created, according to Inkerpol, the world’s largest unit-linked insurance corporation with the launch of PPM and fund supermarket by the same token.

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