Further development of the investment strategy for the Government Pension Fund Global

“The Norwegian Government is today presenting a report to Parliament (Storting) on the management of the Government Pension Fund in 2011. In line with what we announced last year, we are now preparing to make changes to the investment strategy for the Government Pension Fund Global in several important areas,” says Sigbjørn Johnsen, Norway’s Minister of Finance.

Wider geographical spread of investments
More than half of the Fund’s assets have been invested in Europe. The concentration of investments in Europe was intended to reduce the exchange rate risk, but a new assessment in last year’s report on the Fund, Report No. 15 to the Storting (2010-2011), showed that the Fund’s exchange rate risk is less than previously thought. It was therefore announced that the percentage invested in Europe should be reduced over time so that the Fund’s geographical spread becomes even wider. This transition has now started.

The report presents a plan to reduce the proportion invested in Europe to closer to almost 40 percent. The Fund will continue to have large investments placed in Europe. The proportion will remain larger than many other international investors.

“The proportion invested in Europe will be reduced gradually over time. However, the Fund is growing, so that its investments measured in Norwegian krone (NOK) will still increase over time. The Fund shall continue to be a considerable investor in Europe,” says Mr Johnsen.

Towards global market weights for equity investments
The geographical distribution of the Fund’s equity investments is to be based on global market weights. That means the distribution hereafter is to be determined to a large extent by changes in the size of the various stock markets worldwide.

The move towards market weights will mean that a larger share of the Fund’s capital than at present will be invested in the emerging equity markets. The global economic and financial centres of gravity are changing and this will be reflected in the Fund’s investments.

“A full transition to global market weights would have resulted in a sharp reduction in the investments in Europe and at the same time a high percentage of investments in the USA. We believe it is sensible to have a more even distribution between these two markets and we will therefore not go completely to market weights here,” says Mr Johnsen.

Clarification of the fixed-income investments’ role – a new benchmark
“In line with what we announced last year, we are in the process of changing the fixed- income benchmark. We have placed particular emphasis on a wider diversification of risk and on simplifying the benchmark index,” says Mr Johnsen.

The new benchmark index consists of a government part and a corporate part. The government part of the index is to be 70 percent. The objective of this part of the fixed- income portfolio is to reduce the fluctuations in the Fund’s overall return. The investments in government bonds will be distributed according to the countries’ economic sizes, measured as their gross domestic product (GDP weighting). The size of a country’s economy expresses the country’s ability to pay better than market weights (the size of borrowing). In addition, the manager of the Fund, Norway’s central bank, will take differences in the strength of the countries’ public finances into consideration in the operational management of the Fund.

Bonds issued by companies are to comprise 30 percent of the new benchmark. Such bonds normally provide a slightly higher return than government bonds. The benchmark is to be simplified by the removal of several sub-markets. Market weights will be used for this part of the fixed-income portfolio.

In addition, the plans are to include government bonds with a high credit rating (higher than BBB- or “investment grade”) from emerging markets in the benchmark index. This will diversify the investments even more widely across countries and currencies and improve the ratio of the expected risk and return in the fixed-income portfolio.

Continued rebalancing of the Government Pension Fund Global’s equity portion
The report announces plans to change the rules governing the so-called rebalancing of investments. The benchmark index for the Government Pension Fund Global has an equity portion of 60 percent. The equity portion has been determined based on considerations of expected risk and return in the long run. Different price developments for equities and bonds mean that the percentage of equities in the actual portfolio changes over time. This means the Fund may have a higher or lower equity portion than the weight set by the Ministry. The rebalancing rules govern how the equity portion is returned to 60 percent.

“Our experience of rebalancing is good, it has helped to increase the fund’s return. Rebalancing is an important part of the Fund’s strategy,” says Mr Johnsen.

“Norges Bank has advised us on how to formulate the rebalancing rules. They recommend that the rules are simplified and that the band width for rebalancing is set to +/- 3 percent. They also propose more openness about the rules. The Ministry is now assessing these propositions and will set new rules during the spring,” says Mr Johnsen.

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Read more:

• Report No. 17 to the Storting
• Press release 5/2012: Long-term, good management of our common savings
• Presentation used at the press conference

 

External reports prepared as background for the Ministry’s report to Parliament are available here.