Research Staff

Research Staff




Significance and Utilization of Total Portfolio Approach / Jan. 30, 2024
The asset management of pension funds and public funds should focus on goal-oriented asset management. Whether it is a pension fund or a project fund, the purpose of the public fund is specified in relevant laws, and the fund management system should be aligned toward satisfying the specific purpose. In this respect, the multilevel asset allocation system based on asset classes, which has been commonly adopted by all public funds in Korea, entails structural limitations. In particular, if a fund aims to increase the proportion of risky assets, especially focusing on alternative investments, the current system with target weights assigned to predefined asset classes proves highly inefficient. This fundamental challenge explains why many public funds face difficulties in defining sub-asset classes and establishing benchmarks for alternative investments. To address these issues, this article proposes the adoption of the Total Portfolio Approach (TPA) of Canada Pension Plan Investment (CPPI), which Korea’s National Pension Fund (NPF) is considering introducing.The TPA is designed around risk-based management. The fund’s asset management goal is presented in the form of reference portfolios that represent the fund’s risk appetite. Newly invested assets are evaluated and managed based solely on value addition to the reference portfolio, without being limited to a specific asset class. This approach aims to facilitate a more flexible and aggressive exploration of market returns (β) through the expansion of the active asset management scope by the execution team. If an actual portfolio is constructed with a focus on alternative investments for goal-oriented asset management, the TPA will emerge as a rational alternative to overcome structural limitations in the asset allocation system based on asset classes.
Public Pension Funding Scheme and Proposed Reform / Aug. 22, 2023
The debate on public pension reform is in full swing in South Korea. Although everyone agreed on the need for reform, it is still uncertain whether actual reform can be carried out. The five-year delay in pension reform has brought forward the expected fund depletion of the public pension fund by two years, and increased the contribution burden for the future generation by 1.5 percentage points. By 2055, the fund will run out completely, and the scheme will be converted to a full pay-as-you-go system. Without any reserve accumulated in the fund, our future generation will have to bear the contribution rate as high as 26.1%. Intergenerational equity should be considered in public pension reform that is designed for intergenerational support. Because the proposed reform is premised on the fund's depletion and the resultant transition to a PAYG system, it is hard to expect it to alleviate intergenerational conflict. Behind the reform lies the declining and aging population.Developed nations with advanced welfare systems that once boasted their full PAYG system are now struggling to accumulate a buffer, which is found in a funded system. In general, a PAYG system is more vulnerable to demographic changes than a funded system. This has become a fundamental reason behind intergenerational conflicts over the pension system. Korea's pension scheme (NPS) currently has a reserve amounting to KRW 1,000 trillion. This gives Korea an edge to redesign its funding system that maintains a certain level of reserve permanently, instead of a forced transition to a PAYG system due to depletion. Such partial funding means a steady state model successfully adopted by the Canadian pension fund. It is possible for Korea to shift towards the steady state model if it raises premiums to a tolerable level and improves investment returns to a reasonable level. It is an opportune moment to remind ourselves of the true meaning of social solidarity emphasized by the public pension.
Pre-approval for Qualified Default Options and Role of Financial Institutions / Feb. 21, 2023
Korea’s default option pre-designation has been introduced as a selective default option system to the existing retirement pension scheme. It can be understood as a system similar to the representative product designation that requires retirement pension plan providers to offer low-cost, high-efficiency products to support DC plan or IRP holders in their product selection. The Ministry of Employment and Labor pre-approves up to ten representative products for each provider. After employees pre-designate a product suitable for their risk appetite, the products can function as an opt-out default option. Given that default options can be managed for a long term without any investment instruction, financial institutions or providers of default option products should take seriously their fiduciary duty to act in the best interest of employees. The fiduciary duty needs to be considered from the first stage of the default option scheme including product design and qualified default option pre-approval. In an analysis of 259 qualified products approved by the Ministry of Employment and Labor, most of them seem to fulfill requirements including low fees and stable returns. It is notable that various products including the principal-protected type take the form of a fund of funds (FoF), not a single deposit or fund. In the process of building a default option portfolio with a mix of subfunds, it is necessary to underscore the importance of risk diversification, a prerequisite for plan asset management. What is also needed is to provide default options fit for individual risk appetites based on the suitability principle. It becomes commonplace globally to use TDFs in default option composition but TDFs are inaccurate and inconvenient to establish an FoF that deals with a non-variable level of risk. A target risk fund (TRF), one type of balanced fund (BF), is more appropriate for the FoF composition. As for TDFs, it is advisable to use a single TDF that represents a target date corresponding to individual risk appetites. Recently, FoFs consisting of TDFs increasingly serve as a typical default option, which raises serious concerns.The default option scheme represents both heavy liabilities and great opportunities for financial institutions. In terms of risks and returns, the capability of designing and providing qualified products can serve as the most critical competitive edge for financial institutions in Korea’s pension market that lacks healthy competition. This suggests that the key to the success of default options lies in building the trust of employees in long-term investment.
Long-Term Projection of Korea’s National Pension Fund and Reform of Fund Management System / Sep. 06, 2022
Korea is on the threshold of a new era of the KRW 1,000 trillion National Pension Fund (NPF). The current NPF management system was designed in 2005 when pension assets worth KRW 160 trillion were invested primarily in domestic bonds. This giant asset size of KRW 1,000 trillion requires a qualitative change to sophisticated portfolios and investment strategies, rather than quantitative growth. In this respect, the NPF has devised a long-term management strategy that aims at building a diversified global investment portfolio by increasing the weight of alternative investments and reducing home biases. But it has made little progress in implementing the strategy. The key to advanced fund management lies in an efficient decision-making system and a competent management entity. The existing NPF Management Committee consisting of representatives is regarded as a decision-making structure unfit for advanced asset management, while the management entity under the National Pension Service (NPS) exposes limitations that make it difficult to implement strategic decision making. The reforms of foreign public pension funds imply that the desirable governance for public pension funds necessitates a top decision-making body run by a group of experts and an independent management entity. The issues arising from the proposed governance, such as government accountability and the connection between the pension scheme and fund management, could be addressed through the enhanced Asset Liability Management (ALM). If the function of the ALM Committee is assigned to the National Pension Operation Committee, it would be possible to bolster the ties between fund management and pension operation and hold accountable the government as the last resort of pension benefits payment. In line with the NPF governance reform, it is worth considering reorganizing the management entity into a dedicated fund management entity with an independent board of executive officers.In the run-up to the fifth actuarial valuation of the NPS scheduled for 2023, discussions are underway on the pension scheme reform and the fund management system reorganization. The institutional reform aiming for the national pension scheme’s long-term financial stability should be examined alongside efficient fund management. Notably, the increase in investment returns could have a significant impact on financial stability and efficient fund management is an essential precondition for reaching a social consensus over a pension reform that may put pension holders at a disadvantage. Korea is now at a critical juncture to discuss how to reform the pension fund management system to enhance stable and long-term investment returns.

Seminar Presentation