How Korean asset owners tackle inflation and interest rates
As inflation seems to be dampened by higher interest rates in markets around the world, Korean asset owners are looking for ways to navigate this new normal environment for investors.
Lee Kyu-hong, chief investment officer at Teachers’ Pension (TP), believes the high interest rate scenario will continue for some time. With this in mind, the allocation to fixed income has “drastically”
increased for the pension fund with total assets under management (AUM) of W23.2 trillion ($18.1 billion) as of end-May 2023
“For mid- and long-term asset allocation change, it means a lot and is a major change in our institution that we are investing more in fixed income,” Lee told delegates at AsianInvestor’s 15th Institutional Investment Forum Korea in Seoul.
While TP’s long-term asset allocation strategy is to increase alternative investments relative to equities and fixed income, Lee underscored the value of looking for tactical investments in the short term while market are still uncertain.
Also read: Teachers’ Pension finds tactical investments amid 2023 turmoil
For TP, that means also utilising a countercyclical investment strategy. For Lee, that means if the price level of certain asset classes drops, then the pension fund will seek to increase investments.
“When other people say no, then we should say yes. Sometimes we come up with very successful investments,” Lee said.
In reverse, TP is also ready to sell if prices go up within an asset class. But to carry out countercyclical investments, fairly accurate forecasts are required, and that is not always possible for the longer term, Lee pointed out.
“Of course, we need to continue to forecast, but it is important to have a system that is faithful and abide by our mid-term and long-term asset allocation and continue to dispose of overly appreciated assets and continue to buy more underappreciated assets that will increase our long-term profitability,” he said.
FAVOURABLE FOR INSURERS
For the Korean insurance companies, an appropriate level of inflation is desirable, according to Han Seung-chul, senior executive managing director at KB Asset Management’s LDI (liability-driven investment) division.
The previous low interest rate environment was too low which limited investment opportunities especially within fixed income. With insurers’ fixed liabilities, it has been helpful that inflation has spurred interest rate hikes, Han pointed out.
“I don’t believe that interest rates will be declining in the next few years, so it’s quite favourable. It means that our bond portion will continue to increase, but we will still need some portion of alternative investment, so that will be an important strategy for us to pursue in the future,” he said.
At KB Asset Management (KB AM), Han oversees asset management for KB Group’s insurance companies like KB Insurance, managing a portfolio with around W60 trillion ($47.4 billion) in assets under management.
Also read: KB Insurance eyes debt and PE, scales back on stocks
As the high interest rates create uncertainty around economic and market development, risks become correlated, he pointed out. KB will focus more on the asset classes that are not correlated to the macroeconomic situation.
“It will be very difficult to find this class, but I think we see what we want in alternatives because these assets have very long-term horizons. This asset class is not influenced much by the market situation, and even with a worsened macroeconomic situation there will be prospering assets,” Han said.
He pointed out that it was harder to do in practice than in theory. As the needs of insurers’ customers impact the product development, this factor will also shape the direction for composing the portfolio, Han added.
RECRUITING FOR RISKS/RISK RECRUITMENT
The faith in alternative investments as non-correlated investment classes is not shared by Han Jong-seok, chief investment officer at the Police Mutual Aid Association (PMAA).
“Alternative investments are not free from interest rate changes; they are not independent on their own. It is important for alternative investments to replace equities and bonds to come out with a portfolio with the least correlation, but we need to look for asset groups that can structurally grow by themselves,” PMAA’s Han said.
The W5-trillion ($3.9 billion) fund had almost 70% of total assets under management (AUM) invested in alternatives by end-2022, while fixed income stood at 25%, and equity at 5% — but this ratio is already starting to shift.
Also read: Korean Police Mutual Aid shapes leaner portfolio for volatile markets
For a mutual aid association like PMAA, a key task is to prepare for increased lending from members instead of banks. And with higher interest rates, the CIO foresees an increased need for liquidity for member loans.
“We will increase our reserve ratio by 5% and increase our quasi-liquid assets,” Han said.
To maintain the returns in liquid, but more volatile assets, PMAA is forced to take on more risk in investments. To manage that shift, Han has started to upgrade the skillset internally and among investment advisors.
“Risk-taking is easier said than done, and we will recruit experts in this regard. Last year, we hired a local expert, while another person came from a large corporation where the person used to take care of the risky assets,” the CIO said.
Also read: Korea’s POBA reveals investment targets for remaining 2023