Zurich pension fund steps up foreign-currency hedging
SWITZERLAND - PKZH, the pension fund for the city of Zurich, has increased its currency hedging and vowed to stick with passive currency management.
According to its 2011 annual report, the CHF13.1bn (€10.9bn) fund's nearly 100% foreign-exchange hedging strategy had a "slightly negative" impact on performance last year, when it returned -0.8%.
But Oliver Grimm, who works in the Pensionskasse's asset management department, told delegates at this year's CFA Swiss Pensions Conference that PKZH's decision to consider currency as a separate asset class, which is managed passively, had paid off in the long run.
This year, the fund has pushed up its foreign-currency hedging ratio slightly beyond the 80% target set in 2008. The target allocation for currencies is 90% Swiss francs.
Unhedged, the PKZH's currency exposure would be 61%, but Grimm said the fund wanted to assess the risks in every asset class "completely independently" of the currency risk.
"With vitrually complete currency hedging, you can almost achieve the same returns as domestic investors in local currency," he said.
If foreign currency bonds were unhedged, he said, they would be very volatile and could not be used as a safe haven in times of crisis.
He pointed out that the Swiss franc had to date always rallied in times of crisis, and that it therefore made sense to have a strong exposure to the currency.
With respect to the peg to the euro, Grimm said he thought the Swiss National Bank would lift it only after the crisis had been resolved.
He said the PKZH would not have to adjust its foreign-currency hedging much should that occur, as it did not anticipate a positive return from the foreign currency exposure over the long term.
In fact, the fund "does not believe in active currency management", according to Grimm, who explained that the fund had had "quite bad experiences" with active management in the past. The scheme switched to passive management in 2008.
Only twice since the onset of the euro-zone crisis has the scheme taken an active position on the single currency, and both times it failed, Grimm said.
"So we will probably not try to take a bet on the euro again," he added.
The only currencies that are not fully hedged, Grimm said, are some emerging market currencies where appreciation is likely, and that might be difficult or too expensive to hedge, as well as a minor part of other currencies to avoid net short positions should they depreciate.
To hedge the currencies, PKZH has given its two managers free rein to use futures or forwards.
Grimm added that the fund had had to "completely remodel" its benchmark since the LIBOR scandal.
According to Grimm, the expected portfolio volatility would be significantly higher without the foreign-currency hedge at 10.7%, compared with the current 8.4%.
"And with this, we would have to increase our buffers to 25% instead of 19%," he added.
At year-end 2011, the PKZH had a funding level of 109.5%, down from 113.8% a year earlier. This has since recovered back to the 2010 figure.