Pension funds are allocating more assets to alternatives – but are they monitoring their exposure correctly?
(January 3, 2012) -- One of the most sophisticated pension fund investors in Europe has welcomed its national regulator's calls for improved supervision and oversight on allocations to alternative assets.
The head of alternatives at ATP, which manages the national pension assets in Denmark, told aiCIO that the Finanstilsynet (FSA) has taken prudent action in asking pension funds and insurance companies to focus more closely on their alternative investments.
The FSA sent a "Christmas Letter" to these investors asking them to examine how and with what frequency they evaluate alternative investments, taking into account the risk/return benefits and their own sensitivity to the allocation. The regulator said that due to the low yield environment, increasing numbers of institutional investors were turning to alternatives for higher returns and for this reason it wanted to ensure they understood the complexities involved.
ATP's alternatives head, Ulrik Dan Weuder, said: "The regulator wants pension funds to better explain how they evaluate these investments - and how they monitor them. It is a positive step as investing in alternatives is a complex business. Although the fund manager (if one does not invest directly) makes many of the decisions, the end investor should be able to answer detailed questions on the investments (strategy behind the investment, investment risk, revenue drivers etc.), if they cannot, they should not be investing there."
As the country's largest and highly sophisticated pension fund, ATP has been an investor in alternatives for many years and has a dedicated in-house team. ATP invests in alternatives both directly, through co-investments and funds. Depending on the investment an internal team with external advisors is set-up to undertake the investment that include - legal, tax, technical, financing and investment professionals. It is not uncommon that an investment takes 4-6 months. Smaller funds, however, often do not have such internal expertise but research shows investment in alternatives is growing regardless.
In the 2012 Asset Allocation Survey published by Mercer, the investment consulting firm showed a broadening range of options in the "alternative" category that were receiving attention - and mandates - from European pension funds.
Dan Weuder said it was important to understand that there are many different types of alternatives and each has its own unique characteristics.
"Investors have got better at understanding long term investments and at undertaking due diligence and high transaction costs of these long-term assets, such as infrastructure, private equity and timberland. They are able to factor in the long-term risks, but many have to improve how they oversee and monitor the on-going investment," he said. "These are not automatic processes - they are hand held processes - investors have to sit on committees that govern the investments and know what questions to ask."
Dan Weuder said investors also needed to understand managers and their incentives and what phase they are in in their investment cycles. He said that over the last couple of years there have been some improvements in transparency across the industry, this was mainly due to pressure from investors rather than managers offering extra clarity themselves. "Managers are being increasingly challenged over their strategies and style by investors who have been surprised to find they have invested in something where characteristics of the investments are far from what was expected. We believe that what the FSA is asking of information is a prudent step," he said.
ATP is to welcome a new CEO this year as Lars Rohde departs the fund at the end of this month. To read an interview with Carsten Stendevad, click here.