Pension investments | Professor knocks down plans to use leverage to invest pension funds – “Sounds like gimmicks”

Leverage possible implementation in the investment of Finnish pension funds causes confusion.

HS said on Sunday that will be clarified in the labor market organizations’ pension negotiations in all silence also such a possibility.

Until now, the public has mostly been on display the possibility of increasing the share risk of occupational pension companies i.e. shares share of investments to increase returns.

Debt leverage means that pension companies could use debt money to make investments. Debt leverage is often used in equity investing to increase returns. When the exchange rates rise, the leverage works exactly like this, but when the exchange rates fall, the losses increase accordingly.

Professor of Finance Vesa Puttonen Aalto University considers the project confusing.

“It sounds like gimmicks to take attention away from the really important development areas of the pension system,” says Puttonen.

Much more important to him would be to improve the pension system in other ways. According to Puttonen, the key would be to increase individual freedom of choice according to the Swedish model, i.e. to give wage earners the opportunity to decide in which fund a small slice of their own pension contributions will be invested.

Another important thing, according to him, would be to get the pension system fees under control. According to him, that alone would bring big savings. Now about a percent of the funds goes to cover investment expenses.

Puttonen reminds that the liabilities of the pension system are 750 billion euros and the assets are only 250 billion. According to him, taking on debt is not a solution.

Puttone would consider increasing the share of stocks in investment portfolios so that all or almost all assets are in stocks more reasonable than using debt leverage. In his opinion, instead, interest instruments should be abandoned due to weaker return expectations.

According to him, giving up fixed income investments would also be necessary if debt leverage were to be introduced. According to Puttonen, it would be absurd for a portfolio using debt leverage to have interest investments. He emphasizes that debt cannot be attributed only to equity investments.

Now about half of the pension funds are invested in shares. Their share of the investments is regulated by solvency regulations, because the risks of equity investments are greater than fixed income investments, as are the return expectations.

In the stock market, the use of debt leverage is known to strengthen market movements. When prices fall, a leveraged investor may have to sell their shares aggressively.

In order to prevent this from happening if pension companies were allowed to take on greater risk, according to Puttonen, the solvency requirements should also be reduced and brought down to close to zero. Now the solvency requirements can force pension companies to sell shares when the prices fall.

Would the use of debt leverage increase the risks too much? According to Puttonen, everything depends on the amount of debt.

For sure managing director Risto Murto does not want to take a position on an individual proposal, but says he wants to give the working group and ultimately those who make decisions peace of mind.

However, according to Murro, using debt leverage in pension investing is very rare in the world. This is the situation for both equity investments and the entire pension portfolio.

If debt leverage were to be used, the big question, according to Murro, would be whether it would be used only in the stock portfolio or in the entire investment portfolio, i.e. also in fixed income investments.

It is not known which possibility was discussed in Finland.

According to Murro, one of the few pension systems using debt leverage is Denmark and its statutory ATP system. However, the risk management and solvency framework of the Danish pension system is completely different from the Finnish one.

In Denmark, pension investments are divided into two different portfolios, an income-oriented portfolio and an interest portfolio. Debt leverage is used in a yield-oriented portfolio that includes stocks, among other things.

The interest portfolio, on the other hand, does not actually seek returns, but is used for risk management. The actual pension income is generated from the stock portfolio.

“During good times, thanks to debt leverage, they have been much higher than the returns of Finnish pension companies, but correspondingly weaker when the stock market has fallen,” says Murto.

If In Finland, it would end up using debt leverage in pension investing, according to Murro, it would most likely apply to the entire investment portfolio and not just the stock portfolio. Shares are already the riskiest part of the portfolio. According to Murro, the discussion among pension companies has primarily been about increasing the weight of shares to a greater extent than at present.

Now, the use of debt leverage is allowed for pension companies for a limited time only in subsidiary housing joint-stock companies in order to increase the production of rental housing.