GPIF's performance fee model could inspire Asia peers
Japan’s Government Pension Investment Fund is paving the road for – and seeing the results of – more assertive, performance-based fees being required of asset managers.
So far there few other Asian institutional investors have followed in GPIF’s footsteps, according to advisory firm Willis Towers Watson. But ability of the world largest pension fund to demonstrate fee savings from its approach could persuade other Asian asset owners to experiment with similar fee structures.
GPIF revealed in its annual report for the April 2018 to March 2019 financial year that its fund management costs were just two basis points of its ¥159.2 trillion ($1.46 trillion) in assets under management (AUM) at the end of March 2019. That was down from three basis points in the previous financial year, and marked a positive achievement in a year with otherwise mixed results.
In effect GPIF cut its management costs to ¥31.8 billion versus the previous year’s total of ¥46.91 billion, based on its AUM of ¥156.38 trillion at the end of March 2018.
According to one Tokyo-based investment adviser familiar with GPIF’s investment strategy, the lower fee costs were chiefly a result of the pension fund having introduced performance fees.
The pension fund introduced the new fee structure in April 2018 as part of an effort by chief investment officer Hiromichi Mizuno to only reward fund managers that could genuinely offer returns in excess of underlying benchmarks. It also relaxed restrictions on investments to allow active managers to better use their abilities to target excess returns.
The adviser argued that the cost-cutting efforts made sense but shouldn’t necessarily be GPIF’s only focus.
“GPIF points out that the cost is lower than overseas public pension funds. But essentially, I think they should aim at acquiring alpha rather than cutting costs,” he said on condition of anonymity. “By paying more necessary costs, improving investment efficiency will lead to [higher] contributions to Japan.”
GAINING ATTENTION
GPIF’s introduction of performance-based fees have drawn attention from other parts of the world.
On March 4 2019 at the 5th Global Asset Owners’ Forum in Washington D.C., GPIF shared insights on a research project on asset managers compensation that consultant firm Mercer had conducted on its behalf. The full research project was released on the pension fund's website on July 8.
At the forum GPIF presented the preliminary results, which suggested that alignment between asset owners and asset managers could be improved by placing greater emphasis on longer-term incentives.
Among the peers present were GPIF’s co-hosts California Public Employees' Retirement System and California State Teachers' Retirement System, as well as New York State Common Retirement Fund, Canadian Ontario Teachers’ Pension Plan and the Dutch APG and PGGM. Mercer declined to comment for this story.
Jayne Bok, head of investments in Asia at advisory firm Willis Towers Watson, told AsianInvestor the use of performance-based fees is fairly common among asset owners in the West, but not widespread in Asia.
“If anything, I’ve seen a reduction in clients who use performance fees or are willing to consider them, mostly due to governance constraints in implementing and monitoring such schemes,” she said.
The variety of performance fee structures can also vary greatly.
“Where we have seen it, there is a wide range of practice, anything from a zero base [level of fees] plus 30% performance to the more typical 1.5% and 15%,” Bok said. “The key is to ensure that fees are well structured, and there is quite a bit of analysis you need to do to calculate the fee structure and ensure that the gross alpha is being fairly distributed between the manager and the asset owner.”
Still, the idea of more closely scrutinising whether managers are worth their fees was on the minds of Asian asset owners at AsianInvestor’s Institutional Investment Forums in Korea and in Japan, respectively.
Bok noted that it’s fairly common for performance fee structures to be used for absolute return or alternatives asset mandates. The latter asset types, which include real estate, private equity and private debt, enjoyed high growth numbers in GPIF’s portfolio last year, albeit from a low base.
In addition, Bok said Willis Towers Watson has seen some hedge funds moving to introduce more performance-linked fee structures. Here, managers refund performance fees or management fees if they underperform, but typically only for very large mandates of approximately $50 million or more.
It’s also worth noting that the fund industry is suffering a more general downwards pressure on fees, as the fund industry struggles to deliver alpha. That underperformance could make performance fees an even less attractive proposition for fund managers.
“Managers who are flexible in how they structure fees for clients are more likely to come across as client-friendly and better aligned,” Bok said. “However, when a manager has more revenue coming from performance fees their business performance will be more volatile, so there is a balance that needs to be maintained.”