Social security investments: Managing financial risk
Social security investment specialists have examined ways of diversifying their investment portfolios to manage new financial risks at a gathering in Geneva, convened by the International Social Security Association (ISSA).
"Social security institutions often have fantastic assets, sometimes related to the strategic assets of their state. However, the problem that social security institutions face is managing risks related to an over-concentration of assets and funds at the country or sector levels," according to Omar Al Razzaz, Director-General of the Jordanian Social Security Corporation, and Chairperson of the ISSA's Technical Commission on the Investment of Social Security Funds, which organized the event.
Dr. Al Razzaz pointed to the ongoing sub-prime mortgage crisis as a demonstration that no single investment was secure enough, and that fund diversification was essential. Small countries in particular may be poorly protected against country risk, exchange rate risk, and sector risk. Solutions to investment risks at the country level may be found at the regional or international level, he said.
New financial instruments for investment
The Technical Commission has asked the advice of leading financial management and advisory companies to analyze alternative investment options used by private funds, and in particular, the advantages and risks of asset swaps, exchange funds and asset pooling. These financial instruments offer institutional investors a way of reducing concentration by diversifying their investment portfolio through limited partnerships among a group of institutions or countries, which in some cases do not involve capital transfers.
"Current market conditions pose a huge challenge to the pension industry," said Gary Dugan, Chief Investment Officer of Merrill Lynch Global Wealth Management. He encouraged social security institutions to spend time thinking about their strategic asset allocation, which conditions the results of their investments in the long term.
A survey carried out through ISSA members indicates that public social security funds are reluctant to enter into asset swaps or pooling, often as a result of political, legislative or economic constraints.
Case studies presented by Canada and Denmark made clear that, although the use of derivatives produces outperformance, it also implies a thorough knowledge and management of the associated risks.
"For social security investments, there is no 'one size fits all' solution," said Ernest Nyarko, Investment Director, Harith Fund Managers (South Africa). "But these financial instruments may provide an interesting model for some countries."
Investment: A priority for social security
The ISSA Technical Commission on the Investment of Social Security Funds was established in 2007, but investment strategies have been a permanent priority for social security institutions and have been on the agenda of the Association for decades. As early as 1930, the Association carried out a survey of the impact of the economic depression on sickness insurance funds. In 2005, the ISSA published its Guidelines on the Investment of Social Security Funds.
Together with asset swaps and pooling, current priorities for study by the Commission include governance of social security investment policy and process, and performance benchmarks for social security investors.
Addressing the seminar, ISSA Secretary General Hans-Horst Konkolewsky urged social security institutions to continue learning from the knowledge and experience of other sectors in responding to these investment risks, and called on the participants to study investment solutions that were relevant to a diverse range of institutions and contexts. He emphasized that the ISSA provided a unique expert forum for discussion concerning the administration of public social security funds.
Mr. Konkolewsky also reminded the participants that sound investment was not only a question of financial results, but was an essential part of the responsibility of social security institutions.
"Beyond figures and financial indicators there are always people; every decision you take regarding the funds you manage has an impact on present or future benefits, on the sustainability of your pension scheme and ultimately on the future living conditions of people covered," Mr. Konkolewsky said.
Based on the discussions held during the Technical Seminar, and with the support of Merrill Lynch, the Technical Commission will develop a comprehensive report on the various investment vehicles that could help ISSA members to mitigate the risk of over-concentration of assets, including exchange funds, pooling of assets and private equity funds. The analysis of these alternatives may help ISSA members with similar realities to join efforts in implementing new investment vehicles.