Norway’s SWF resembles index fund; needs clarity of mandate

The largest sovereign wealth fund in the world, Norway’s Government Pension Fund Global, resembles an index fund and is not making the most of its tracking error boundaries according to a review of the active management of the fund by a team of specialists.

The academics who reviewed the NOK11.95 trillion ($1.36 trillion) fund as a directive from the Ministry of Finance, said there was an opportunity to think more strategically and redirect the mandate of the fund towards active ownership.

They said the Ministry of Finance needs to specify the priority in the mandate and that having two goals (active ownership / net zero and active management) is difficult to execute when you just have one instrument (the portfolio).

Rob Bauer, Professor of Finance at Maastricht University, said GPFG which is managed by Norges Bank Investment Management had the complexity of an active fund, with more than 200 strategies and hundreds of investment staff, but the performance features of an index fund.

The academics looked at active management from January 1998 to September 2021 by evaluating sub strategy performance. They found overall the fund returned 7.03 per cent annualised since 1998 with a benchmark of 6.83 per cent, and while there was some evidence of added value in certain strategies overall it behaved like an index fund. Furthermore its tracking error has been 0.3 for the past four years but the mandate allows a tracking error of up to 1.25 per cent. The tracking error across the entire timeframe was 0.6.

The committee’s report urged the Ministry of Finance to investigate why NBIM does not take full advantage of its tracking-error limit and whether any operational impediments or structural barriers play a role.

Related, the committee recommended there be less emphasis on factor models in evaluating the fund’s performance and more focus and emphasis on the qualitative assessments of the organisation such as governance quality, long-term mindset, and creating the appropriate culture for successful execution of the strategy.

The analysis by the academics – which included Charlotte Christiansen from Aarhus University and Trond Doskeland from the Norwegian School of Economics alongside Maastricht’s Bauer – found some evidence of value-adding strategies, particularly in equities. At the total equity level annualised active returns were 0.36 per cent and gross active returns were 0.47 per cent. Security selection strategies, net of costs, were the biggest contributor with positive active returns of 1.27 per cent. In fixed income net gross active returns were 0.13 per cent.

However there was not enough persistence of value add to make a difference to a fund the size of Norway.

“We propose a bold change. This could be not just a requirement to beat the benchmark but perhaps a basis points minimum deviation from the benchmark. The mandate is not ambitious at the moment,” Bauer said in an interview with, while also acknowledging the difficulty of a fund the size of GPFG beating a benchmark.

A minimum target of outperformance would force NBIM to take a bit more risk, he said.

A new active ownership mandate?

The limited value add from active strategies combined with an increasing focus on sustainability presents an opportunity to revamp the fund’s mandate to focus on active ownership, according to Bauer who reiterated that combining active management may conflict with the ambition to execute effective active ownership strategies.

“The issue of active ownership is complicated. If you want to address issues of climate change and net zero it is difficult to combine that with the objective of having active management. The portfolio managers on the floor may want something different to what is being asked by politicians who represent the Norwegian people, and someone has to prioritise,” he says.

Christiansen agrees with the mixed messaging demonstrated by the lack of integration between the active investment management and the active ownership.

“This problem is generic for all pension funds – choosing whether to be active/beat the benchmark or have active ownership/net zero. Can only one make investment decision but how do you reconcile the two? Someone needs to have the decision and it needs clarity in the mandate.”

In the report the academics said: “We urge the Ministry of Finance to provide clarity in the mandate on the objectives and prioritization of active ownership strategies, as well as on what parts of this prioritisation are NBIM’s purview versus which are prescribed in the mandate.”

Complexity of benchmarks and the future of real estate

In conducting the review the committee also revealed that the current benchmark gives rise to some potential conflicts of interest as some objectives target active returns (trying to achieve a positive alpha) and others target total returns (diversification of the whole portfolio). Adding a net-zero-emissions targets to the portfolio would add more conflicts of interest to the mandate.

Specifically there was some opacity in the asset class benchmarks which made it difficult to examine. In addition real estate is not in the benchmark but is instead measured against stocks and bonds.

Christiansen says stocks and bonds were not the right performance measure for real estate investments.

“Norwegians like to promote the fact they own properties on some of the well-known streets in London, and it seems like they are quite proud of that. But they measure the performance of real estate against stocks and bonds, to us that is quite strange,” she says. “A quarter to a third of their people are working on real estate and that is mostly unlisted, but they don’t measure returns against an unlisted benchmark, that makes it very difficult to come up with some good information. The finding would be that performance is very bad because unlisted real estate has lower returns than stocks and bonds, but it’s not the right performance measure.”

The committee advises that if the Ministry of Finance deems unlisted real estate to be important for diversification purposes then real estate should be reinstated to the benchmark.

Unlisted real estate is a long term strategy which means attracting good people and retaining them is a long term exercise. The removal of real estate from the benchmark in 2017 could signal to that team that real estate is not an important asset class in the long term. That may lead to people leaving and difficulty to attract new personnel, Bauer said.

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