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[NPS in Action] Korea's pension fund, under pressure, hunts for gains in foreign stocks

World's third-largest retirement fund banks on large-cap tech shares and foreign markets in bid to stave off fund exhaustion

By Im Eun-byel

Published : Jan. 30, 2023 - 16:48

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This is the second part of a series on South Korea’s largest investor National Pension Service, analyzing its current status and identifying tasks that lie ahead. -- Ed.

This photo shows a branch of the National Pension Service located in Jongno-gu, Seoul on Monday (Yonhap) This photo shows a branch of the National Pension Service located in Jongno-gu, Seoul on Monday (Yonhap)

South Korea’s public pension fund has been stepping up investments in foreign stocks as it faces mounting pressure to enhance returns, amid concerns that the fund would run out sooner than expected due to rapid demographic changes.

On Friday, a budget committee of the pension service announced in an updated forecast that the state pension fund would be depleted by 2055, two years earlier than the previous projection made five years ago. The fund is expected to see a deficit from 2041 onward due to plunging birthrates and an aging population.

The projection adds to pressure on the government to reform the pension system and seek ways to shore up the fund.

To tackle the coming shortfall, the National Pension Service Investment Management, an investment arm that manages the state pension operator's 915 trillion won ($740 billion) fund, announced a midterm plan for its investment portfolio adjustment.

In June, it said it will decrease its dependence on domestic stocks and raise the holding of foreign stocks in its portfolio to 40.3 percent by 2027. The figure is much higher than the 28.4 percent it held in October 2022 or the 13.5 percent of 2015.

For domestic equity allocation, the target for 2027 is set at 14 percent, 0.5 percent lower than the previous 14.5 percent bar. As of October 2022, the fund has allocated 14.2 percent of its portfolio to domestic stocks.

Investment portfolio changes should be carefully designed, experts said, as buying and selling activities of the fund, the country's largest institutional investor and the world's third-largest retirement fund, have a huge impact on the market. Especially in an event in which the NPS would need to sell assets to raise cash to hand out pensions.

“Considering the financial circumstances of the National Pension Service, it is appropriate for the fund to increase its investments in foreign shares,” Nam Chae-woo, a research fellow at the Korea Capital Market Institute who specializes in funds and pension studies, said.

“When the pension reserve runs out, it will be inevitable for the service to cash out its assets. But when it does so, its impact on the financial market will be huge and the local stock market is not strong enough to handle such impact,” Nam said.

The liquidity cost will directly impact the market, unless the fund service successfully diverts its dependence on domestic shares to foreign assets in the coming years, he explained.

“The proportion of investments in local stocks should fall to the single-digit range,” Nam said.

However, some also share the view that the NPS should have adopted a more flexible strategy last year when the local stock market underperformed.

“It is right for the NPS to go for a strategy that decreases its dependence in local stocks,” Kim Yong-ha, an economics and business studies professor at Soonchunhyang University, said.

Kim is a member of the national pension reform advisory committee under the National Assembly.

“However, at times like last year, when the local stock market crashed and the South Korean currency fell against the US dollar, the NPS did not have to further raise its stake in US stocks, considering the foreign exchange hedging costs and how it could have generated more profit by dip-buying local stocks.”

Also, the pension fund selling off domestic stock holdings could anger individual investors. In 2021, when the local stock market plunged, the NPS temporarily raised its weighting of domestic stocks, following attacks from individual investors enraged that sales by the institution had led to further dips in stocks.

Strong belief in tech shares

Although the fund is shifting its focus from domestic to foreign stocks, there's a certain sector it has been continuously investing in both here and abroad -- big tech shares.

With tech companies still going strong even throughout the pandemic, it increased its stake in Korean portal giant Naver from 8.17 percent to 8.29 percent within the past year, according to data from market tracker FnGuide. It is the largest shareholder of the tech firm.

It also increased its holdings of Korean game developer Krafton, from 5.94 percent to 6.96 percent last year.

The game company, known for the renowned hit game PlayerUnknown's Battlegrounds, rolled out its new work, the Callisto Protocol, in December, but posted disappointing results afterward.

The fund owns 7.68 percent of shares in Korean tech giant Samsung Electronics and 8.17 percent of shares in memory chip manufacturer SK hynix, according to the latest filings, worth 30 trillion won and 5.44 trillion won, respectively, based on Friday's closing price.

In 2012, the fund held a 7.19 percent stake in Samsung Electronics shares and 8.08 percent stake in SK hynix shares.

Though the figures may not display a high gap, the fund reserve's committment to the two market bellwethers -- despite the long-term move to scale back in local stocks -- shows the fund's strong preference for the two tech firms.

Meanwhile, the fund raised its stake in US big tech shares, including Apple.

According to the Form 13F report submitted to the US Securities and Exchange Commission in November, the NPS held $3.1 billion worth of Apple stocks in the third quarter, up $185 million from the $2.96 billion in the second quarter. It stepped up its holdings in Amazon from 1.28 billion shares to 1.43 billion shares.

Apple and Amazon both beat market expectations and posted better-than-expected second-quarter revenue in mid-2022, managing to contend with higher costs following the pandemic-driven expansion.

The fund service held $959 million worth of Tesla stocks in the third quarter, up $192 million from the $766 million in the second quarter. The pension fund is known to be an early investor of Tesla, having reported its purchase of the shares since 2014.

It is known to have raked in more than 3 trillion won from its previous investments in the electric-car maker.

“Big tech companies guarantee profitability and stability. As the fund cannot go after high-risk, high-return investments, tech shares are the right choice for the fund,” professor Kim Yong-ha said.

Lukewarm returns

As of end-October, the fund had an investment return of minus 5.29 percent from the beginning of 2022, translating into a loss of 51 trillion won.

Local stock investments were the worst performers with returns of minus 20.45 percent, while the figure stood at minus 4.84 for foreign stock investment.

The fund said its operating return rate fell as stock markets in and out of Korea slumped due to aggressive monetary policies from major nations, concerns of global recession and the prolonged Russia-Ukraine war.

“Of course it would be better if the fund could have shown better investment results at a time like this when it has come under the crisis of a possible fund depletion,” Lee Kang-koo, a fellow researcher at the department of public finance and social policies at Korea Development Institute, said.

“But the fund should be evaluated from a long-term perspective and it has been showing a decent performance in past years. So it would not be prudent to judge the fund’s investment with just one year of decline.”

The pension reserve recorded a profit of 91.2 trillion won in 2021, 72.1 trillion won in 2020 and 73.4 trillion won in 2019. Apart from 2018 when the fund reserve recorded a loss of 5.9 trillion won, the fund had seen positive earnings since 2013.