NZ Super has reduced the risk budget for its strategic tilting program, but this should not be seen as a scaling back of the program
New Zealand Superannuation Fund (NZSF) has reduced the active risk budget it allocates to its strategic tilting program. The fund found that the budget for active risk was signficantly higher than the level at which the program historically has been run and did not expect an increase in active risk in the coming years.
The strategic tilting program is part of a risk bucket called Internal Investment Mandates (IIM). In total, this bucket was allocated an active risk budget of 2.5 per cent, but between September 2001 and December 2023 it only used 1 per cent of active risk.
Willis Towers Watson (WTW) recently concluded an extensive review of the fund, which is required to be carried out every five years. In its review, WTW welcomed the reduced budget, but said potentially it could be scaled back further.
“The reduction in the active risk budget allocated to strategic tilting is reasonable, although further reductions in the active risk assumption could potentially be justified given that strategic tilting has historically run well below the (lower) target risk level over an extended period,” the asset consultant said in the report.
The total level of active risk is also below what its budget allows it to run, WTW said. “The fund-level of active risk (2.7 per cent) is now running at about 50 basis points below what NZSF can run in a way that is consistent with its liquidity risk appetite.”
Alex Bacchus, Acting Chief Investment Officer of NZSF, said the level of active risk in its strategic tilting program can change quite a bit throughout market cycles, depending on the opportunities available.
“When we see assets, if we see them at close to fair value, we won’t have any significant positions on. When we see things cheap or expensive, we will have some significant positions on. And so the average usage through time is going to depend a little bit on the market,” Bacchus told [i3] Insights.
“Every few years, we review those risk budgets for each of these opportunities or asset subclasses, and make some revisions. Ultimately, the risk that is going to get assigned to these different strategies or asset subclasses is going to be a function of how confident we are that we’re going to get some expected returns from the strategy,” he said.
The move to reduce the active risk budget, therefore, does not mean the fund is scaling back the program, which historically has been one of the key drivers of outperformance for the fund alongside its tactical credit program.
The tactical credit program is an internally managed strategy that invests in low risk, fixed income markets. Areas of investment include positions on debt funding conditions, liquidity risk premium, relative value credit positions and risk transfer positions to allow counterparties to improve balance sheet efficiency.
Positions are usually collateralised or senior exposures with minimal outright credit risk. Tactical credit has the fund’s second largest allocation of active risk budget. But the strategic tilting continues to have the largest allocation.
“Strategic tilting means we can have some long-term valuation views so we can ride through short-term market volatility,” Bacchus said. “Generally, it has a high risk budget and its risk budget has generally been around half of our total active risk in the past, and it still is around that: half of the total active risk.
“We review these risk budgets and as that note says, the strategic tilting was reduced slightly. We look back at what we have achieved and what our assumptions are for the strategy. Are we estimating that average risk appropriately? What is this estimate of average risk looking forward for the strategy?
In terms of the actual position taking, we haven't actually changed the underlying exposure taking and tilting, but we have acknowledged that we don't think it is going to absorb as much risk going forward as we'd assumed before
“In terms of the actual position taking, we haven’t actually changed the underlying exposure taking and tilting, but we have acknowledged that we don’t think it is going to absorb as much risk going forward as we’d assumed before,” he says.
Setting the budget for active risk is partly based on the appetite for liquidity, rather than expectations of volatility in the market, Bacchus says.
“What we’ve acknowledged is that the liquidity usage of the opportunities is often the limiting factor for our risk-taking rather than just the standard deviation. I think that’s ultimately the thing that drives what happens in downturns and what capacity we have to rebalance.”
As part of the review, WTW made a series of recommendations for improvements, while acknowledging NZSF is a top performing fund both on metrics of performance and governance.
The report quoted research by the Global SWF organisation from May 2024, which ranked the fund as the second best performing sovereign wealth fund/public pension fund out of 50 funds over the past 10 years, returning 10.8 per cent per annum between the financial years 2014 to 2023.
One recommendation from WTW suggested the fund might consider opening an overseas office to support its investments in private markets and suggested London could make sense.
Jo Townsend, the recently appointed Chief Executive Officer of the fund, told [i3] Insights that the fund will consider this recommendation.
“We will look at it in due time,” Townsend told [i3] Insights. “We will have to consider what competitive advantage we have [to open an office].”
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