Pension funds must comply with official guidelines when managing their assets. These have been questioned for some time. Is this justified?
The Ordinance on Occupational Retirement, Survivors' and Disability Pension Plans (BVV 2) contains explicit guidelines on how pension plans must manage their investment assets. But why are these investment guidelines important? Why are they regularly criticized, and should they be changed? Sven Ebeling from Asset Servicing Switzerland at UBS Switzerland investigated these questions.
Investment returns cannot be mandated
Investment returns - along with employee and employer contributions - are a key factor in being able to generate the targeted pensions. If investment returns were high enough, they alone would solve the problem of adequately funding pensions. Unfortunately, the level of investment returns generated cannot be decreed. Only what the financial markets yield can be generated. This makes a sophisticated investment strategy more important. To ensure that an appropriate investment strategy is applied at every pension fund, a sensible framework is needed in the form of practicable investment guidelines.
A good investment strategy is central
Since investment returns play such an important role in the 2nd pillar, a good investment strategy is central. The investment year 2022 has shown the challenges that investment managers can face. The collapse of diversification characteristics in a mixed portfolio, rising inflation rates and interest rates, rising commodity prices, increasing geopolitical risks and fears of recession have made it enormously difficult for investors. But even in the current year, there is no simple recipe for successfully investing pension assets.
BVV-2 investment guidelines specify investment parameters
The current investment guidelines in BVV 2 are clearly listed in the eleven articles 49 to 59 of the ordinance. First, general requirements for the asset management process, and for risk management, are set out. In addition, it explains how to deal with the conflicting objectives of return, security and liquidity, and which diversification principles are to be followed. Finally, a catalog of "permissible" investments is listed, combined with specific limits at the level of investment categories and individual debtors. These are supplemented by special provisions on real estate, derivative financial instruments, and investments with employers. Particularly worthy of mention, according to Ebeling, is Art. 50, para. 4, which is an exception clause that offers greater room for maneuver by allowing the prescribed limits to be exceeded, provided that a coherent, qualified justification is provided.
Specifications fuel criticism
However, criticism is being voiced of the BVV-2 investment guidelines. Four points are at the center of this criticism:
Do the limits for asset classes form too tight a corset?
According to Ebeling, the answer is no. The allocation to alternative investments (hedge funds, private equity, infrastructure investments, commodities), for example, has never exceeded 10% at any time over the past 17 years, says Ebeling. He bases this on the observable, average asset allocations of pension funds according to the UBS «Pension Fund Performance» surveys. This is even though current guidelines allow for a total allocation to such investments of 30% (15% alternative investments, 10% infrastructure investments, 5% Swiss private investments). And he notes that this applies to the entire size spectrum of pension funds, i.e., small, medium, and large funds. Those funds that are nevertheless restricted in their investment activities can and must fall back on the exception clause.
The risks must be weighed up carefully
Certain political initiatives call for a transition to the so-called 'prudent investor rule', an investment principle anchored in American and British law. In this context, general requirements apply to the fulfillment of fiduciary duties, such as those typically exercised by a board of trustees. These general requirements apply to all investment decisions, which must be made with care, prudence and based on sound financial theory, as Ebeling explains. Detailed regulations in the sense of a conclusively defined investment universe or explicit limits have been dispensed with.
BVV-2 investment guidelines have already been adjusted
Most recently, two adjustments were recently made to the investment guidelines in BVV 2. In October 2020, infrastructure investments were introduced as a separate investment category with a maximum permissible quota of 10% of investment assets. Since then, infrastructure investments have no longer been charged to the alternative investments category, which may continue to account for a maximum of 15% of investment assets. As a result, increased demand for infrastructure investments has been observed, says Ebeling, as they have positive diversification properties, for example. However, implementing infrastructure investments is not trivial, he cautions, but does present some challenges. Based on available allocation statistics, the 10% ratio seems generous, at least currently, he adds.
A second adjustment was made at the beginning of 2022, when the independent investment category 'Unlisted Swiss investments' was included in the investment catalog with a permissible quota of 5%. This investment option will therefore no longer be at the expense of alternative investments. The biggest obstacle to the implementation of such investments is the fact that there are currently hardly any suitable investment products to choose from, according to Ebeling. Therefore, no effect on the investment behavior of pension funds has been observed so far. Only the future will show whether this adjustment was necessary, he says.
Pension funds are also guided by the recommendations of the ASIP
However, the framework conditions are not only defined by the BVV-2 investment guidelines. For example, pension funds are also guided by the recommendations and standards issued by the Swiss Pension Fund Association ASIP. Ebeling cites the ESG guidelines published by ASIP in July 2022. The guidance was supplemented with the ESG Reporting Standards, which were published in December 2022 and already came into force at the beginning of 2023. According to Ebeling, taking ESG principles into account when defining and implementing the investment strategy is likely to have a more fundamental impact on investment activity than selective adjustments to the BVV-2 investment guidelines.
Investment activity is influenced by regulations
The scope for actionin investment activities is also influenced by possibilities at the investment organization level. Worth noting here is an amendment to the Collective Investment Schemes Act (CISA), as Ebeling points out, which was passed by parliament in December 2021. It introduces a new fund category, the Limited Qualified Investor Fund (L-QIF). The L-QIF is an alternative to existing foreign fund products such as the RAIF (Reserved Alternative Investment Fund) in Luxembourg. It is intended to contribute to strengthening the competitiveness of the Swiss fund center and to promoting its innovative strength. The L-QIF does not require authorization and approval from FINMA (Swiss Financial Market Supervisory Authority) and benefits from comparatively liberal investment regulations, especially in alternative investments. However, these freedoms are accompanied by strict transparency requirements, and back-delegation of asset management is not permitted. As Ebeling notes, the L-QIF is likely to be of interest only to larger pension funds and collective and joint institutions. The consultation on the implementing regulations was completed in December 2022. Entry into force cannot be expected before August 2023.
Current BVV-2 investment guidelines are justifiable and flexible
In line with these statements, Ebeling concludes that the current BVV-2 investment guidelines are perfectly justifiable and sufficiently flexible. They offer helpful orientation for small and medium-sized funds, as Ebeling explains. However, investment guidelines can never be considered «set in stone» but must be adapted to changing needs and new requirements. Because of their central importance for the investment activities of pension funds, adjustments should always be well considered, he advises.