Japan pensions increase focus on private markets

Corporate pension funds in Japan are moving to create a new private markets category in their investment portfolios to drive income amid a low-interest-rate environment, an AsianInvestor forum heard.

They are looking at areas such as infrastructure, unlisted real estate and private debt to provide regular income, with many using private equity as a means to smooth volatility within a broader equities bucket.

But they acknowledge the need to accumulate knowhow as they look to increase their private-market exposure. They also expressed the belief that private equity had a worse image on the whole than hedge funds (which by show of hands was the opposite of how conference delegates felt).

Speaking on a panel on private-market investments at AsianInvestor’s fifth Japan Institutional Investment Forum in Tokyo last week, pension executives outlined their approaches to – and expectations of – private equity.

Hidekazu Ishida, adviser to the Osaka Gas Pension Fund, said the institution began investing in private equity in 2000 and only turned a profit in 2012-13. “If I had known it would take so long, I don’t know if I would have started,” he said.

Nevertheless, he acknowledged that PE was the engine that had improved the pension plan’s overall funding, with a return on investment of 1.4 times and a value-weighted return of 10.3% since it started PE investing, but a time-weighted return of only 5.3%. 

Ishida added that listed equities were the benchmark for evaluating the fund's PE portfolio, noting that when the stock market was strong, the pace of PE investment tended to rise. He revealed its PE portfolio on the whole had an internal rate of return of 7.3% since inception.

He also pointed out the overall equity ratio in its portfolio was relatively high and, as such, the volatility of its foreign stock holdings had to be contained. “That is why we invested in private equity, because the impact of volatility is milder.”

However, Hideo Kondo, asset management director at the pension fund of ink maker DIC, said it was hard to gauge what the risk premium should be for investing in private equity.

Moreover, the only real investment opportunities are in the US and Europe, not Japan, he added. As the average ROE for big US companies is 14%, he said that was his target return for PE.

Like Ishida, Kondo highlighted the relatively low volatility of PE, citing a lower average volatility of 5.9% for its PE portfolio from 2003-14, two percentage points lower than its internal benchmark for PE.

Asked by moderator Masaya Hara of Albourne Partners about the PE fund selection process, Ishida highlighted how specialist investment advisory companies had developed over the past five years.

Leveraging such expertise was an obvious approach, he said. “You do not have to take the long way around and start from scratch,” he told the audience of asset owners, asset managers and service providers. “It is like a star that comes round once in several years. You have to capture it when it comes by.”

At the same time he warned it was imperative to understand a trustee company’s incentives. “Are they recommending a certain type of investment because they really think it is the best, or because of sales? You have to distinguish.”

Tokushima stressed that even in cases where funds had set a certain percentage of assets for exposure to private equity, such as 5%, there was no rush and always the option to buy commingled funds of funds in the secondary market.

Ishida agreed, suggesting PE on the whole took 20 years to perfect, across two 10-year cycles. “Entry valuation determines everything,” he said. “How to diversify is where your creativity and intellect comes into play. We are rather commingled in our approach.”

Asked how he gets to know trustee managers better, Kondo said he received recommendations from placement agents and made contacts at overseas conferences. “I have to select the right person from these opportunities,” he said.

On the question of how they segment private equity within portfolios, Ishida said his firm included PE within a broader equity bucket, with the focus on liquidity management.

With domestic and global bond yields near all-time lows, he added: “Infrastructure and private debt are the asset classes we are looking into to pursue income. So within the private markets we are trying to create a new category; that is the general trend we are seeing.”

Ishida added that investing in domestic airports was another area of interest from an income perspective.

Likewise, Kondo said increasing exposure to private debt and infrastructure as core assets was a risk management strategy, alongside shortening long equity duration.