Profitable Retreat From Overseas Investments for Pension Funds

The huge growth in cross-border investment by pension funds has gone into reverse because of a “flight to safety” back into domestic assets, new research by the Organization for Economic Cooperation and Development (OECD) suggests.

This has been particularly marked in several euro zone countries, suggesting that the trend towards pan-European investment — heralded before the euro zone’s birth in 1999 as one of the greatest virtues of the single currency — is unwinding.

The research, in the OECD’s 2012 "Pension Markets in Focus," finds that Denmark, the Netherlands and the Slovak Republic — all euro zone member states — saw drops in the proportion of assets invested abroad of 8 percentage points to 10 percentage points during 2011.

Danish funds, which cut the proportion of foreign assets to just 26.8 percent, were rewarded with the best investment return — 12.1 percent in real terms — of any of the 29 OECD countries covered. The OECD’s members are primarily rich countries.

The OECD said the Danish performance was driven partly by increases in the value of bond investments. The price of domestic Danish bonds was boosted in 2011 by their safe-haven attraction after the outbreak of the euro zone crisis.

Denmark also gained last year from its long-term reallocation — mirrored in many other countries, but particularly strong in the Danish case —away from equities, which suffered a torrid year. By the end of 2011, bills and bonds dominated Danish pension fund portfolios, accounting for 66.6 percent of assets. 

Dutch pension funds were, by a long way, the second-highest performers in the OECD — notching up real-term gains of 8.2 percent, far ahead of third-placed Australia at 4.1 percent. The Dutch performance was also flattered, like the Danish, by its long-term transfer in assets from equities to bonds, and by the country’s high-performing sovereign debt.

The OECD singled out Slovakia as a particularly striking example of the 2011 global phenomenon where countries “shifted their geographical allocation to reduce exposure to countries deemed to be risky.” In response, Slovakian funds cut exposure to euro zone peripheral debt by 3 percentage points to 4.5 percent — though this did not prevent a negative investment return of 3.8 percent.

However, the previous trend towards pan-euro zone investment has not been entirely reversed. The OECD said foreign investment still “tends to be greater” in euro zone countries.

U.S. pension funds had a 48.1 percent exposure to equities at the end of 2011 according to the report — one of the highest in the world, despite a long-term fall in the figure. U.S. fund performance averaged minus 2.7 percent in real terms. U.S. funds were hit last year by their large equity portfolios, although the strong showing of the U.S. stock market this year will have boosted their performance.

The report blamed the average 1.7 percent negative investment return across the OECD on “renewed uncertainty in the world economy in 2011,” which “reversed the positive trend in stock markets.” Pension fund performance “was also hampered by bond portfolios in pension funds most exposed to the European sovereign debt crisis.” However, “pension funds with high exposure to sovereign bond safe havens benefited from major revaluation gains.”

Portugal, whose bonds plummeted in value in 2011 because of concerns that it would not be able to service them, recorded a negative investment return of 7.3 percent, one of the worst in the OECD.

The research records breakneck growth in pension assets in non-OECD countries, with a 7.5 percent average annual increase since 2006 in Latin American countries, and a 10.6 percent increase for the Brics (Brazil, Russia, India and China) figures up to 2010.