For the first year since 2011, the investment assets of the earnings-related pension system declined in 2018. During 2018, assets decreased by EUR 6.4 billion, totalling EUR 193.4 billion at the end of December. Especially the weak trend of equity investments towards the end of the year cancelled out the returns accumulated earlier in the year, but the returns on fixed-income investments were also negative. The last quarter of the year was marked by increased uncertainty, which led to a sharp decline in the values of listed shares, in particular.

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According to the annual reports, the investment assets of the earnings-related pension system totalled EUR 194.9 billion on the 31st December 2018. The total amount presented here differs from the annual reports’ total. This is due to an error in our data system. We are investigating the root cause of the error.

As a result, the figures and percentages presented in the analysis are incorrect but give an image of the magnitude. We will correct the figures after we have cleared the error.

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Analyst Kimmo Koivurinne’s analysis comprises the following sections:

  1. Return on investments nominally -2.4 per cent in 2018
  2. Unusually sharp decline in stock market prices at the end of the year
  3. Basic facts about our investment statistics

The role of pension funds will grow in the future, as pension assets and the returns on their investment will be used to an increasing extent to finance pensions. At the level of the entire pension system, contributions have been insufficient in recent years to cover pension expenditure. The difference is financed by investment assets and their returns.

1. Return on investments nominally -2.4 per cent in 2018

  • Investment assets of the earnings-related pension system, in total: EUR 193.4 billion
    • Investment assets in the private sector: EUR 121.4 billion
    • Investment assets in the public sector: about EUR 72.0 billion
  • Decrease during the last quarter of the year: EUR 11.3 billion.
  • Investments in equities and equity-like instruments: EUR 103.3 billion, or 53.4 per cent of all investment assets
  • Fixed-income investments: EUR 73.2 billion, share 37.8 per cent
  • Real estate investments: EUR 16.9 billion, share 8.8 per cent
  • Returns on investments for the whole year 2018: -2.4 per cent nominally and -3.5 per cent in real terms.

28th February 2018, source: Tela

Only slight changes occurred in the relative shares of the various asset categories during 2018. The share of fixed-income investments (37.8%) declined by one percentage point during the year. The share of equities (53.4%) rose by about two percentage points and the share of real estate investments (8.8%) by about half a per cent from the figures a year ago. Over a longer term, the proportion of equity investments has increased since 2012, while the share of fixed-income investments has correspondingly declined. The underlying reason is the low interest rates, which has made pension insurers seek more profitable investments, for instance, in unquoted shares, real estate, private equity funds and alternative investments. In the light of the returns, this strategy seems to have worked well in the long run. Last year, a good return on real estate investments compensated for weaker equity returns [1].

[1] When the analysis refers to investments in equities and equity-like instruments, this means the following categories of investment figures: quoted shares (incl. funds); hedge funds; and other investments in equities, which include, for instance, equity investments and investments in unquoted shares.

The regional distribution of investments changed little during the past year. The relative share of investments in the euro area rose by half a per cent and the share of non-euro area investments by less than one per cent. Correspondingly, the share of investments in Finland declined by slightly over one per cent. At the end of 2018, about a quarter of investment assets (24.5%) was invested in Finland, about one fifth (19.9%) elsewhere in the euro area, and more than half (55.6%) in countries outside the euro area. Changes in the relative shares of investments are affected by net flows — that is, the difference between purchases, sales and maturities.

During 2018, the returns of the six largest operators for each investment category were as follows:

  • Average returns on equity investments: -4.6 per cent in nominal terms and -5.7 per cent in real terms;
  • Corresponding average returns on fixed-income investments: -1.1 and -2.3 per cent, respectively;
  • Average returns on real estate investments: 5.9 and 4.7 per cent, respectively.

The trend of returns on pension investments must be examined over the longer term; changes occurring during one quarter — or even during a year — are not of major importance to the financial sustainability of the pension system. On the other hand, future returns cannot be predicted on the basis of the returns realized. Over the long term, in the end, pension assets put into funds increase in step with economic growth and inflation. It should be noted that the selection of the examination period is also important.

The returns realized look steady in the longer term:

  • 2014–2018 (5 years): 4.6 per cent in nominal terms and 4.0 per cent in real terms
  • 2009–2018 (10 years): 6.4 per cent in nominal terms and 5.1 per cent in real terms
  • 1997–2018 (22 years): 5.6 per cent in nominal terms and 4.0 per cent in real terms

The projected real return used by the Finnish Centre for Pensions for its long-term projections is 3 per cent until 2025. Thereafter, the projected real return is 3.5 per cent. The latter projection has been used to examine the pension system all the way until 2085. Then the whole picture depends the most on trends in employment, the birth rate and net immigration.

Pensions are financed not only by pension contributions but also by investment assets placed into funds and the subsequent returns. In addition, since 2014, investment assets have been affected by the fact that the pensions paid out of the funds and their returns have exceeded the sum of pension contributions placed into the funds. For instance in 2017, the entire pension sector collected EUR 2.5 billion of pension contributions into funds, while the sum taken out for pensions paid totalled EUR 4.3 billion. This means that the net sum used for pensions from funds and their returns totalled EUR 1.8 billion.

The solvency of pension insurers continues to be strong despite the weaker investment returns of last year. The solvency ratios of the four largest pension insurance companies ranged between 120.6 and 127.5 per cent at the end of December. Correspondingly, the solvency position ranged between 1.6 and 2.3. The solvency ratio and position declined slightly during the past year. Thanks to the buffers meant for rainy days, pension insurers are also able to withstand worse periods on the financial market.

2. Unusually sharp decline in stock market prices at the end of the year

The last quarter of 2018 started more or less at the peak of the year’s stock market prices. In October, uncertainty increased on the market, while the US Federal Reserve’s interest rate hikes showed the first signs of taking effect. This was reflected in the stock market so that, during the last quarter, stock indices consistently pointed downwards, and earnings in the key markets seemed to be way in the red.

  • The S&P 500 index, describing the stock market performance of the five hundred largest U.S. companies, fell by as much as fourteen per cent in three months.
  • The FTSE index of the 100 largest companies on the London Stock Exchange fell by over ten per cent and the German DAX index by almost fourteen per cent.
  • The OMXH25 index, which describes the development of the largest companies on the Helsinki Stock Exchange, fell by a whole fifteen per cent.
  • The OMXS30 index of the Stockholm Stock Exchange did even worse — a decline of over 15 per cent during the last months of the year.

The U.S. Federal Reserve’s interest rate policy was criticized from many directions, despite the timely announcement of measures to normalize interest rates and the significant upward trend in inflation since 2016. In December, the Fed announced that it would cut interest rate hikes by half in the coming year. However, a look at the market seemed to indicate that the greatest damage had already taken place.

Other uncertainty factors, of which there was definitely no lack last year, were also underlying the falling stock market prices. Towards the end of the year, the hot name of the over-indebtedness theme was Italy, which caused concern not only for its indebtedness but also for its low investment, poor productivity and ageing. The situation in Italy was not exactly improved by the campaign promises made by the new populist government, the basic tone of which would seem to increase the economic deficit even more. The demographic situation, and in particular the declining birth rate, are real problems in Italy, where a quarter of women have no children at all and another quarter have only one child. The challenges of this third largest economy in the euro area will also mean problems for the common currency, the euro, if no budgetary discipline is found.

Nor did the news headlines lack any trade policy tensions, either. The main characters were the usual trading partners, China and the USA. The relationship between these two countries resembles a marriage that is on the rocks. Various threats are hurled but the relationship must go on because both know that neither can manage very well on their own. Hampering trade policy is detrimental to the world economy, as increasing protectionism slows down global growth. Protectionism is particularly noxious to Finland, whose exports and free trade are a lifeline, and naturally also to the whole of the EU, since exports to Asia account for a quarter of the EU’s total exports.

In addition to the above, another key topic associated with last year was Brexit. Separation of the UK from the Union is unlikely to bring back the Brits’ old glory, as it has been estimated that a hard Brexit would mean a loss of as many as half a million jobs in the UK. According to other calculations, a hard Brexit would also cause the loss of hundreds of thousands of jobs worldwide.

3. Basic facts about our investment statistics

Our member organizations are responsible for investing the statutory earnings-related pension assets. The statistics cover the pension insurance companies, the TyEL funds of industry-wide pension funds and company pension funds, as well as the public-sector earnings-related pension providers: Keva, the State Pension Fund (VER), the pension liability fund for employees of the Social Insurance Institution Kela, the Church Pension Fund (KER) and the Bank of Finland’s Pension Fund (SPERA). Also included is the group of specialized pension providers, which comprises the Farmers’ Social Insurance Institution (Mela) and the Seafarers’ Pension Fund (MEK).

The statistics only cover the statutory earnings-related pension assets put into funds. They do not include the value of the funds for collective supplementary pension provision, managed by industry-wide pension funds and company pension funds. These totalled about EUR 4.2 billion at the end of 2018.

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