Unlisted investments in the Government Pension Fund

Investment in unlisted real estate and infrastructure is a key topic in the white paper to the Storting on the management of the Government Pension Fund in 2015.

In 2008, it was decided that up to 5 percent of the Government Pension Fund Global (GPFG) should be invested in a separate real estate portfolio. At the end of 2015, the real estate portfolio accounted for some 3 percent of the Fund, and continues to grow.

The Ministry of Finance has assessed whether the proportion of the GPFG invested in real estate should be increased, and whether investment in unlisted infrastructure should be permitted. Consideration has also been given to whether the Government Pension Fund Norway (GPFN) should be allowed to make such investments.

As part of its assessments, the Ministry has obtained analyses and advice from an expert group, Norges Bank and Folketrygdfondet. The report of the expert group was presented at a seminar in December 2015. The Ministry has also arranged a dialogue meeting to discuss real estate and infrastructure investments.

Real estate investments in the GPFG
The real estate portfolio forms part of the Fund’s benchmark index, and a valuation-based index for unlisted real estate values has been adopted as the return objective. Both Norges Bank and the expert group point to weaknesses in this regulation.

In the white paper, the Ministry of Finance presents plans to move away from the current provision that up to 5 percent of the GPFG shall be invested in a separate real estate portfolio. The Fund’s benchmark index will then only include listed equities and bonds. Real estate investments will be included in the existing framework for deviations from the benchmark index. The investments will be evaluated against a broadly composed index which can, in principle, be followed closely at low cost. The Ministry in addition plans to cap investments in unlisted real estate at 7 percent of the GPFG. Returns on real estate may differ from the return on listed equities and bonds. Accordingly, Norges Bank must aim for a lower proportion of unlisted real estate than 7 percent to avoid breaching the limit and having to liquidate holdings in the event of sharp, sudden drops in the value of the Fund’s listed investments.

“Under the new regulatory framework, the scope and composition of the Fund’s unlisted real estate investments will be decided by Norges Bank. This solution gives a clear division of labour between the Ministry of Finance and the Bank, as well as an overall limit of the Fund’s risk,” says Minister of Finance Siv Jensen.

Unlisted infrastructure in the GPFG
It is uncertain whether unlisted infrastructure investments improve risk diversification or raise expected returns. Both the expert group and Norges Bank consider that the range of investment opportunities can be expanded by permitting investment in unlisted infrastructure. The Fund’s distinctive characteristics and potential management advantages can make it profitable to exploit such opportunities. However, such advantages are difficult to quantify.

The unlisted infrastructure market is small for the GPFG . Uncertain estimates indicate that unlisted infrastructure accounts for just 0.5 percent of the global investable capital market. The majority of the infrastructure market is listed, unlike the largely unlisted real estate market.

“In our view, a number of important factors indicate that investments in unlisted infrastructure should not be permitted. Such investments are exposed to high regulatory or political risk. Conflicts with the authorities of other countries regarding the regulation of transport, energy supply and other important public goods will generally be difficult to handle and will entail reputational risk for the Fund. The Government considers that a transparent, politically endorsed state fund like the GPFG is less suited to bear this type of risk than other investors. Following an overall assessment, the Ministry is not prepared to permit the GPFG to invest in unlisted infrastructure at this stage. It would be useful to gain more experience from unlisted real estate before any expansion to additional types of unlisted investment,” says Ms Jensen.

“The GPFG has a financial target, and is not an instrument for promoting state investment in developing countries or renewable energy. There is no financial rationale for permitting infrastructure investments only in these sub-markets. There are already many public schemes to promote investment in developing countries and renewable energy. Moreover, the Storting has asked the Government to prepare the establishment of a limited company mandated to invest in companies that develop and use green technologies, in partnership with the private sector. The Government will return to this question in its revised budget for 2016,” says the Minister of Finance.

Unlisted investments in the GPFG
The GPFN invests primarily in Norway. The state already has substantial real estate and infrastructure holdings in Norway. Accordingly, there is little rationale for the state in investing part of the GPFN in unlisted real estate and infrastructure to improve risk diversification.

“The Norwegian infrastructure investment market is small and undeveloped. Any investments in infrastructure by the GPFN will most likely result from the sale of such assets by the central or local government. Such a change of ownership will leave the state’s overall risk level unchanged, and usually generate significant transaction costs. Following an overall assessment, we are not prepared to permit the GPFN to invest in unlisted real estate and infrastructure,” says Minister of Finance Siv Jensen.

Read more:

• Chapter 1 of Report no. 23 (2015-2016) to the Storting (white paper)
• Press release 17/2016: Strengthened management of the Government Pension Fund