We had the pleasure to interview Bruno Servant, CEO of Generali Insurance Asset Management (GIAM) since March 2021, and we chatted to him about the current situation of the pension funds industry, how the conflict in Ukraine is affecting the markets, how to navigate crisis and liaise with the risks and losses, and the trends in the industry.
How would you describe the current situation of the pension funds industry?
Europe’s pension fund industry has sailed through the COVID-19 storm: almost all jurisdictions recorded larger-than-2019 pension assets already at the end of 2020. According to IPE, by YE2021 the top EU 1000 funds have more than 9 Eur tn assets. Defined benefit funds represent still the highest share, but Defined Contribution funds are growing at a higher pace (5.5% CAGR 2018-23 vs 3.4%, according to McKinsey estimates).
The DBs funding ratio improved across the EU jurisdictions (Eiopa). Even in the US, the post-pandemic equity gains have helped underfunded pensions come within a whisker of being fully funded for the first time since 2008.
How are the European investors coping with the current scenario in the markets? Do you see any long-term effects of the current Russia-Ukraine crisis in the pensions industry?
From a tactical perspective, portfolios were already somehow positioned to face more difficult market conditions as FED & ECB posture became less benign after the 2021 inflation rally. This has allowed the industry to enter this crisis with a more cautious risk profile and limit the damages. Clearly, in an environment where rates are going up, spreads are widening and equities are weak and volatile, the job of the asset manager is more complex. However, on one side we need to remember that we are long-term investors and, as such, we are more capable to face volatility and take profit of it. On the other, the increase in rates is helping the repricing of liability to lower levels, an important effect that should not be forgotten.
Looking ahead, the asset allocation will need to adjust to a new inflation regime, definitely more aggressive in the incoming future, later likely to stabilize to lower levels but still higher than what we have used to see for long time. The “real” component of the pension flows will need to be addressed via the right mix of asset classes. The other important consequence of the recent even is the sharp flattening of the long end of the yield curves: the sum of the expected aggressive monetary policies and the slowdown induced by super-inflation are capping long dated forwards and are hitting the yield increase associated with longer duration. While higher rates are beneficial to pension funds, flatter curves make things more difficult.
We are anyway optimistic, the industry has strengthened its skills through all the crisis since 2008 and is well equipped to navigate through this situation.
What are the current trends in the pension funds industry?
Despite role, size and nature of private pensions markets vary significantly across EU, depending on the country-specific pension system setup, some trends are re-shaping the industry as a whole:
- Sustainable investing: public authorities, stakeholders and society are pushing the investments industry to translate net-zero announcements into concrete strategies; on the other hand, new regulations like the EU taxonomy or the SDFR will improve metrics standardisation, limiting greenwashing and overclaiming. We think that sustainable activism, both in the global warming and social dimension, will give more scope for cooperation between institutional investors and asset managers.
- Digital technology has become key, pushed by more tech-savvy consumers and accelerated by the COVID-19 pandemic. Technology improves communication with clients; digital disclosure (platforms and dashboards) reduces compliance costs; roboadvisors make financial planning more accessible. New technologies are also relevant to pension providers’ internal processes, including product design, transaction processing, risk management and compliance. We think that digitalization will give more scope for delegated asset managers for sharing information and insights with pension funds in a more direct, granular and timely way going forward.
- Asset class diversification, to cope with low rates environment, investments have moved towards alternatives. More recently towards real assets to deal with inflationary pressures. In an environment with more volatility, we see scope for innovative balanced (factor, illiquid, commodity and not only traditional assets, etc) rather than specialized mandates, in order for the asset manager to be able to contribute directly to pension fund diversification choices.
How do you manage risks in terms of Solvency, Capital requirement and credit losses?
A solid and disciplined investment governance is key for any investor, even more for those looking after pension funds. We look not only at all the restrictions that are embedded in our portfolios, those coming from regulations and those derived from internal risk management provisions, but we also add new metrics like ESG and sustainability guidelines as they are now equally part of our framework. Starting from the investable universe defined by the set of constraints, we apply our market knowledge based on PM experience and Research inputs to define the expected market scenario: this eventually becomes an actual asset allocation via the application of our quantitative models that look for the optimal portfolio throughout all the limits and applied to actual market conditions.
This is possible when the investment activity is well founded and its components are also very solid: strong research, experienced portfolio managers, refined quantitative processes and disciplined risk management.
Given our experience in LDI business, we do believe that the quality of the whole investment process is crucial to be successful over the years and particularly when markets are more challenging.
What would you say are the effects of an ageing population in Europe in the pension funds industry?
In EU, the old-age dependency ratio (the ratio between people aged 65+ years and those aged 20-64) is projected to move form 34% in 2019 to 59% in 2070 (Eurostat).
This would further challenge public pension schemes, already struggling with both sustainability and adequacy issues, making supplementary pension income increasingly important and the LDI approach key to pension endgames: at GIAM we leverage on inner skills that link deep market knowledge, solid grip on insurance & pension funds needs and growing ESG expertise, to manage complex mandates for LDI clients, also with a thematic approach where needed (e.g., Subordinated Credit, HY, Italian equities, etc.).
In due time, adding value to client in the decumulation phase – for example with annuities strategies – would become more popular also in Continental Europe.
Which are the main pension funds in Europe? And how would you describe the geographical distribution?
The biggest fund in Europe is the Norway Government Pension Fund Global: It has over Eur 1.4 trillion in assets, making it the world’s largest sovereign wealth fund. The second largest one is the Dutch ABP (Eur 0.5 tn assets), a 100-year-old pension fund for workers in the government and education sectors.
If we look at the top 30 EU funds by asset size (IPE 2021), 27 are domiciled in the Nordics, UK or the Netherlands. Of course, this depends on the country-specific pension setups: in these countries, occupational plans are mandatory or quasi-mandatory. In Continental and Southern Europe, which are the markets that we serve most, the market is smaller in size and more fragmented, but growing both in terms of participation rate and AUM.
How do you see the industry changing in the long term?
Some long-term trends in the PF industry, such as the gradual replacement between DB / LDI funds and DC funds are now in place by a long time and are difficult to reverse. Having said that, the search for low-risk exposures, especially in Continental Europe, where investors tend to be more risk averse, will continue, more so in an environment of increasing inflation risk and government yields.
Currently, the value chain of the occupational PF industry is quite fragmented, with consultants being the main gatekeeper between PF trustee preferences and AM focusing in specialized mandates. We have seen increasing specialization from a long time by now. However, the increasing role of climate change and other difficult to gauge risks, such as geopolitical risk, could drive to a closer relationship between asset managers, especially those who have an asset owner perspective, and pension fund trustees. For example, we expect asset owners to partner with active managers in individual champaigns on sustainability and climate.
A related challenge is related to the massive technology change that relates to de-carbonization and digitalization, which is going to make investments in innovation rather than capital management and dividend policy, a key driver of investment returns. Again, forward looking active asset managers might have a better value proposition than indexers in this new domain. In all these cases, reputation – not only ex ante, but also ex-post- will be the name of the game.
Summing up, in terms of investments, the growing commitment to sustainability is here to stay, with ESG integration in the investment process a must have to be competitive. Technology will be more and more key to optimize investment decisions and to engage with clients.
How is GIAM positioned in the market and what are the main strategic initiatives going forward?
We offer customized investment solutions to LDI investors looking for risk control strategies, disciplined approach to credit, or multi asset portfolios. We are also quite active in MtM strategies, especially balanced and quant driven.
We’re active in the Euro Area top 4 countries (Italy, France, Germany and Spain). In the pension fund space, our aim is to consolidate our presence in the Italian market (200 bn Eur AUM in 2020 and high market potential, with only 33% of the Italian workforce enrolled), including guaranteed products. We aim to address French occupational PF market footprint and explore opportunities in Germany and Spain.
To offer the best solutions to our clients, we’re embracing both sustainability and technology in our products: we pursue the proactive integration of relevant ESG factors into the investment process, supporting the achievement of both financial returns and social good.
On the tech side, we’re embracing Machine Learning based tools within the wider investment activity: From NLP (natural language programming) to scrub documents and news flows to support investment decisions, to algorithmic driven TAA based on selection and filtering of signals derived by financial database analysis or automation of portfolios’ risk control & “optimizer tool” (yield/ risk / capital / ESG…)
To do so we’re investing in business, ESG and digital skills to drive growth and boost our people impact.