Danish PFA gets going when times are tough

Danish Pension Fund PFA — having survived the financial crisis and boasting a remarkable funding level of 191 per cent — is now providing both defined benefit and defined contribution schemes and offering its investment skills to external clients.

PFA is Denmark’s second biggest pension fund with assets of more than $48.3 billion.

It has traditionally had a conservative investing approach, with 80 per cent of its assets in high grade government and corporate bonds.

“You might say that in the real bull market in 2010 you would see some of our competitors perform better but, hopefully, we perform during the downturns,” PFA chief strategist and area manager Henrik Henriksen says. “Over the cycle we hope to outperform our competitors and we are a little more risk-averse than some of our competitors.”

But this conservative approach belies a drive for innovation at the fund that included launching an asset management arm and a Responsible Investment Board last year.

The safety-first investment approach has been mainly driven by a concern with meeting the fund’s ongoing defined benefit obligations.

But in recent years it has also looked to expand its defined contribution footprint.

Defined contribution members can choose from four different fund options with varying levels of risk. Some allow customers to change their exposures to bonds and equities on a daily basis.

Two of the funds act similarly to a defined benefit scheme, where a return is essentially locked in. However, in these funds the investor or customer bears the risk.

“We have had a 30-year bull market in bonds and that certainly has come to an end,” Henriksen says. “So returns have to come from outside from equities, from real estate and emerging markets.”

The least risk-exposed defined contribution funds track the bond investments and returns of the larger defined benefit fund.

Similarly PFA’s defined benefit scheme offers four different types of funds with different strategies for managing interest rate risk depending on the annual return promised to investors.

In the defined contribution PFA Plus option an investor who took out a long-term plan with a greater equity exposure, so-called “plan c”, received a 2 per cent return after tax in the first quarter of 2011.

PFA is proud of its record of nine consecutive years of positive returns, which included riding out the financial crisis.

In 2010 PFA looked to leverage its investing skills – particularly in the areas of Danish equities, Danish government bonds, Danish mortgage bonds and corporate bonds – by launching an asset management arm to attract other, mainly domestic, investors.

PFA launched its “Professional Association” in May last year and, while its parent company is by far its biggest customer, it is attracting investors, Henriksen says.

It currently has $38.9 billion in assets it manages and is constructed of 18 divisions running different investment strategies.

Also launched last year was PFA’s Responsible Investment Board, which oversees investment decisions to ensure they comply with the fund’s Corporate Social Responsibility principles.

The fund is a signatory to the United Nations Principles for Responsible Investment and has fully integrated the Responsible Board into its investment decision making process.

“Heading both investment committee and responsible board is our CFO Anne Broeng, I am on both boards too and Jesper Langmack – who is heading equities – is on both boards too. That way we make sure the decisions that are taken are integrated,” he says.

The fund also uses Swedish screening agency GES Investment Services that analyses a range of investments to see if they comply with PFA’s ESG policies.

As a result of launching the RI Board PFA is now in dialogue with 195 companies to work with them on compliance.

Henriksen says the fund has embraced active ownership principles and is prepared to vote at annual general meetings to put pressure on the companies in which it invests to ensure adherence to certain ESG principles.

A recent example Henriksen cites was when PFA used its influence as an investor to engage with a company that he described as “anti-union” to seek to change in its industrial relations practices.

PFA also reported that it is a member of the Carbon Disclosure Project and is in discussion with other Danish companies to encourage them to submit climate change reports on their activities.

This year Henriksen says the fund has been cautious on its exposure to equities, with concerns over the debt levels in North America and Europe as well as inflation concerns in emerging markets leading to an adjustment in asset allocation.

“We were overweight equities until the beginning of May but not by a big amount, then reduced equity holdings in early May,” Henriksen says.

The fund has allocated the majority of its equity investments overseas, and Henriksen says the fund is forecasting a turn-around for equities in the later part of this year.

“We are slightly underweight equities going off our benchmark and we are looking to increase to overweight sometime over the summer when we expect to see a correction but we are still waiting for more positive signals,” he says.

Despite reaping a 36.5 per cent return (currency hedged) on its listed Danish shares in 2010, concerns about liquidity in the Danish market led it to investing around 10-12 per cent of its total equity investment domestically.

In 2010 across its total PFA group, it had about 8.2 per cent allocated to shares of which 7.1 per cent where in strongly performing foreign listed shares.

Asian shares performed particularly well in 2010, returning 28.1 per cent compared to just 11.3 per cent for European shares.

But despite these strong returns, Henriksen says they have decreased their exposure to emerging markets generally because of inflationary worries.

“We have been underweight emerging markets all year and for the first couple of months it has been very good and the last couple of months not so good. But overall it has been ok to be underweight emerging markets,” he says.

“Basically, we are worried about the strong signs of inflation and monetary policy is too loose, in emerging markets interest rates are simply too low.”

Since the financial crisis, PFA has also looked to increase its exposure to liquid assets and has subsequently not increased it exposure to alternative assets.

Henriksen says PFA has its own hedge fund that predominantly invested in short-term bond strategies. But unless there were compelling reasons PFA was not looking to expand its alternatives portfolio because of both cost and liquidity concerns.

PFA has been able to avoid big drawdowns by having a flexible investing team that can quickly change direction, if market conditions change, Henriksen says.

“Our ability (is) to make asset allocation decisions, even though we have an equity department, a fixed income department – they are working closely together. We are situated in one big room and there are 25 people investing this 250 billion Danish krone ($48.3 billion),” he says.

“We have a meeting every day and if we feel money could be better used in the credit market instead of the equity market we move the money and, in fact, that is what we did in 2009.

“We felt credit was very cheap compared to any asset so we reduced our holdings in equities and increased them in credit. The DNA of PFA is the ability to make asset allocation and hopefully to avoid big drawdowns when the market is tough.”