Some interesting findings on the latest patterns in Japanese institutional investing come from Greenwich Associates, to be published in its forthcoming annual Japanese investment management research study.
Among key trends in the Greenwich research is the steady increase among Japanese financial institutions of investment in hedge funds – rising from 63 per cent in 2006 to just under 70 per cent in the past year.
The most striking thing is that for Japanese pension funds (which represent one of the world’s biggest asset pools with an estimated $1,068bn in assets in January 2007, according to OECD figures) it comes at the expense of investment in equities. Having already cut their exposure to domestic equities, Japanese pension funds are further shifting away from equities towards hedge funds, fixed income and property investments. The trend is particularly pronounced among corporate pension funds, which hold an estimated Y30,000bn ($250bn) in deposits.
Greenwich research, based on interviews with professionals at 361 of Japan’s largest corporate pension funds, public pension funds and financial institutions, show that across all Japanese pension funds, average hedge fund allocations increased to 1.9 per cent in 2007 from 0.4 per cent in 2003. Over the same period, allocations to real estate have grown to 0.8 per cent of total assets from 0.1 per cent and private equity has grown to 0.5 per cent from 0.1 per cent.
These increasing allocations are part of a general shift in allocation strategy by Japanese pension plan sponsors, after achieving a healthier actuarial picture over the past several years, notes Greenwich. Corporate pension plans in particular seem to be eyeing reductions in their equity allocations, especially active domestic equities, and increases in hedge funds and property, the research shows.
This new surge of interest in hedge funds among Japanese pension plans is occurring as the overall hedge fund allocations among Japanese financial institutions fell from just under 5 per cent of total assets in 2006 to 3.1 per cent in 2007, while the proportion of institutions investing in hedge funds dropped to 69 per cent from 76 per cent. By contrast, hedge fund use among Japanese corporate pension plans increased to nearly three-quarters in 2007 from less than 65 per cent in 2006, and Japanese corporate pension plan sponsors rank among the world’s most active hedge fund investors, says Greenwich.
Japanese corporations that include hedge funds in their pension portfolios trail only US endowments and foundations in terms of average allocations, says Greenwich.
What’s more, even as institutions in the west are showing more nervousness about hedge fund investments, Japanese financial institutions are planning to expand their commitment to hedge funds and other alternative investments such as private equity and real estate over the next four years — despite the reduction of hedge fund allocations in 2006. According to Greenwich, 86 institutions this year told Greenwich they plan to increase hedge fund allocations by 2010, compared with only 22 that plan to decrease, while 73 expect to boost property-related investment versus just four that plan reductions. Private equity, however, showed the sharpest increase, albeit from a very low base, with 47 institutions saying they expect to raise allocations and one predicting a decrease.
Another key finding is the remarkable turnround in the funding ratios of Japanese pension plans, which posted a mean funding ratio for defined benefit pension plans of 103 per cent in 2007, up from 62 per cent in 2003, with nearly two-thirds of funds reporting assets greater than 90 per cent of their long-term liability requirements in 2007. The increase, according to Greenwich, has “given them the flexibility to refocus investment strategies on lowering volatility and explore hybrid benefits structures such as cash balance plans”.
The irony in all this is that favourable equity market returns have been a key factor in the growing health of Japanese pension funds, according to Dev Clifford, a Greenwich consultant.