Global (excluding US) pension fund performance

Pension fund performance describes the performance of pension fund managers, sampled worldwide. Pension funds are the funding mechanism for defined benefit plans, and in some countries are used as funding mechanisms for contributory retirement savings programs.

Comparison to mutual fund structure
The organizational structure of the pension fund industry is distinct from the mutual fund industry. In the mutual fund industry, retail investors directly allocate their own personal wealth to the mutual fund of their choice. In the corporate pension fund industry, the employees of a corporation typically delegate investment choices to a corporate treasurer who then selects a pension fund. This additional layer of delegation offers several benefits. Pooling the assets of many small investors allows treasurers greater negotiating power and monitoring capacity.

In addition, Del Guercio and Tkac (2002) provide evidence that corporate treasurers are more financially sophisticated than the average retail investor. Their greater financial sophistication may allow them to better identify skilled fund managers. However, delegation may also result in agency costs. Rational investors’ desire high risk adjusted returns, but treasurers may have a different objective.

On the other hand Bauer, Frehen, Lum, and Otten (2008), finding pension fund investment performance surpassing mutual fund performance, suggest that the return differential results from higher mutual fund agency costs.

Government employees participate in public defined benefit plans managed by the sponsoring government.

Adonov, Bauer, and Cremers (2013) note that US public government defined pensions (unlike US corporate, Canadian and European defined pensions) are allowed by law to use the investment return rate as the discount rate for liability matching. This has led to both lower funding of pensions and the use of higher risk portfolios. The US public pensions have underperformed their more conservatively run counterparts by 0.60% per annum.

Pension funds have the following additional characteristics:
 * Unlike mutual funds, which are confronted with continual buying and selling of fund shares by individual investors, pension funds have investment flows defined by long term worker contributions and long term actuarial disbursements. The size of the fund is dependent on the size of the worker population the plan covers and the pension promises made to the workers.
 * Pension funds have, on average, lower expense ratios than average mutual fund expense ratios. Pension funds can manage investments internally at lower costs, or delegate investment funds to external managers of institutional funds. Most funds have both internally managed portfolios and externally delegated portfolios.

Descriptive statistics
According to a 2011 study, US defined benefit plans held 6.454 trillion dollars in 2010, representing 43% of US retirement pension plan assets.

The table below provides the mean strategic policy asset class weights for defined benefit plans over the period spanning 1990 - 2010. The asset class breakdown consists of equity, fixed income, cash and alternative assets. Alternative assets include investments in tactical asset allocation, commodities, natural resources, real estate, infrastructure, private equity and hedge funds.

The table below shows mean expense ratios for US defined pension plans over the 1990 - 2010 period. The mean all assets expense ratio rose over the span to an end of period average 0.55% due to an increase in the strategic allocation to alternative asset classes.

Andanov, Bauer, and Cremers (2012) find economy of scale to be advantageous in reducing costs: "...one standard deviation increase in the log of assets reduces the total investment costs by 7 basis points. The scale advantage is much more pronounced for alternative investments, where a one-unit increase in the log of alternative assets results in 111 basis points lower costs. As expected, funds managing a greater percent of their assets through active and external mandates have higher investment costs."

Performance
Unlike the history of US mutual fund performance studies, which is based on a great deal of available performance data, studies on defined benefit pension plan performance and persistence of performance have been hampered by the lack of available data. Most early studies examine the performance of externally managed institutional funds used by pension plans who delegate investment management to an outside fund. Later studies, using data from benchmarks provided by a Canadian based benchmarking firm (CEM Benchmarking Inc.), examine the performance history of defined benefit plans.

Early studies
A survey of early studies follows:

Beebower and Bergstrom (1977)
This study was among the first to investigate the performance of delegated portfolios for defined benefit plans. The study examines 148 portfolios over the 1966 - 1975 period. Using a CAPM framework they found the average portfolio outperformed the S&P 500 index by 1.44% per year along with a pattern of performance persistence.

Brinson, Hood, and Beebower (1986)
The study examines the returns of 91 defined benefit plans during 1974-1983. Benchmarked against the S&P 500, these plans underperformed by 110 basis points per year and showed no evidence of superior security selection or market timing persistence.

Ippolito and Turner (1987)
This study investigates a sample of 1,526 plans during 1977-1983 and finds that the average plan underperformed the S&P 500 in a CAPM framework by 44 basis points per year but outperformed a weighted stock-bond index by approximately 38 basis points.

Lakonishok, Shleifer, and Vishny (1992)
The study examines the performance of 341 investment management firms between 1983 and 1989. They find that the firms underperformed the S&P 500 by 260 basis points per year, and acknowledge that although some evidence of persistence exists, data limitations prevent a robust conclusion.

Coggin, Fabozzi, and Rahman (1993)
This study revisits the Brinson, Hood, and Beebower (1986) study, and documents positive selectivity and negative timing skills for a random sample of 71 equity managers from US pension plans.

Busse, Goyal, and Wahal (2006)
This expansive study examines the performance and persistence in performance of 4,617 active domestic equity institutional products managed by 1,448 investment management firms between 1991 and 2008. Controlling for the Fama–French (1993) three factors and momentum, aggregate and average estimates of alphas are statistically indistinguishable from zero. They find only modest evidence of persistence in three-factor models and little to none in four-factor models.

Studies using the CEM database
The CEM database allows academics to study the performance metrics of individual defined benefit plans.

Andonov, Bauer, and Cremers (2012)
The study examines defined benefit plan performance over the 1990–2010 period. The CEM database includes a total of 557 U.S. pension funds which account for approximately 30-40% of the asset under management by U.S. pension funds. In 2010, the holdings in U.S. equity of U.S. pension funds included in the CEM universe represent 4.2% of the market capitalization of the NYSE, NASDAQ and AMEX and their fixed income holdings are equal to about 2% of the total outstanding U.S. bond market debt.

The study measures plan performance in terms of asset allocation policy, market timing, and security selection. Over the 1990 - 2010 period, the average pension plan provided an annual excess return of 89 basis points after risk adjusting for equity, market, size, value, liquidity, and fixed income market factors. The distribution of excess return breaks down as follows:


 * Asset allocation. The average plan produced 25 basis points of excess annual return by setting asset allocation. Most of this excess return is attributable to an increase in alternative asset class allocation over the period. Plans also increased allocations to international stocks over the period.
 *  Market timing. The average plan reaped 26 basis points of excess return due to passive exposure to time-series momentum.
 * Security selection. The average plan received 25 basis points of excess return from security selection. However, this return becomes insignificant after controlling for risk factors and is attributable to the momentum in equity markets.

The study finds that large plans, while having lower costs than smaller plans, face liquidity constraints due to size, as well as potential organizational issues that introduce agency issues which can reduce returns.

The study concludes:

"Overall, pension funds seem to have most expertise in designing strategic asset allocation and market timing policies, rather than in actively selecting securities or in finding external managers with superior security selection skills.

''Pension funds benefit significantly from time series momentum across multiple asset classes. Our results thus suggest that pension funds, and especially the larger funds, would have done better if they invested in passive mandates without frequent rebalancing across asset classes. This conclusion is confirmed when we compare the total performance of funds depending on the percentage of their assets that is actively managed. The most actively managed group of pension funds has significantly greater liquidity-related diseconomies of scale, as its funds that are in the largest quartile group underperform similarly sized funds with much less active management by about 62 basis points a year.''

''Our paper thus documents three separate reasons for the attractiveness of passive management, especially for the largest pension funds. First, pension funds on average had insignificant risk-adjusted security selection performance. Second, passive management is much cheaper than active management. Third, performance in passive mandates is less subject to liquidity-related diseconomies of scale." ''

Bauer, Cremers, Frehen (2010)
The study finds that pension fund costs are substantially lower than mutual fund fees. The domestic equity investments of US pension funds tend to generate abnormal returns (after expenses and trading costs) close to zero or slightly positive. Small cap mandates of defined benefit funds have outperformed their benchmarks by about 3% a year. The study authors note: "'While larger scale brings costs advantages, liquidity limitations seem to allow only smaller funds, and especially small cap mandates, to outperform their benchmarks.'"

Alternative asset classes
The most prevalent alternative asset classes used by pension plans are real estate investments, private equity, and hedge funds. As the table below indicates, pension funds began investing in hedge funds in 2000 and the percentage of funds using hedge funds has increased over the 2000 - 2008 period. The average allocation to real estate, private equity, and hedge funds has remained fairly consistent over the period.


 * Andonov, Eichholtz, Piet, and Kok, (2013)

This study evaluates the allocation and performance of pension fund investments in real estate, the most significant alternative asset class for institutional investors. Investments in real estate can include direct investment, investment in equity REITS, or take place through fund of funds for direct investment. Real estate investments can be managed internally or delegated to outside investment managers. Real estate investment cost and performance are determined by two main factors: mandate size and investment approach.

Interestingly, US pension fund real estate costs are higher than the real estate costs incurred by Canadian, European, and Pacific pension plans. Cost breakdowns are tabulated below:


 * Internal management expenses: median 18.51; mean 26.24
 * External management expenses: median 76.35; mean 86.08

The study authors conclude: ''Larger pension funds are more likely to invest in real estate internally, have lower costs, and higher net returns. Smaller pension funds invest primarily in direct real estate through external managers and fund-of-funds, and disregard listed property companies. Overall, delegating real estate investment management to financial intermediaries increases costs and disproportionally reduces returns.''

Canada
Some 40% of the Canadian populace is covered by a defined benefit pension plan. The relative performance differential between pension plan stock and bond portfolio returns and mutual fund returns is considerable.

Ambachsheer and Bauer study the relative returns of Canadian equity mutual funds and defined benefit plans equity portfolios over the 1996 - 2004 period. The study involved 2781 mutual funds and 636 defined benefit pension plans. Over this period, mutual funds produced a before fee +0.15% return over the benchmark return. However, investment costs (MER, not including any sales charges) averaged 2.75%, thus resulting in a -2.60% net shortfall to benchmark returns.

Over the same 1996 - 2004 period, defined pension funds produced a +1.47% return over benchmark returns, reduced by a 0.25% MER, for a net +1.23% premium return over the benchmark. In the equity sphere, mutual funds lagged pension funds by -3.83%.

Bauer and Kicken (2008) examine bond fund returns over the 1997 -2004 period. Defined benefit plans bond portfolios produced a modest net return of 6.5 basis points over the benchmark return, aided in large part by a 12.4 basis point expense ratio. Over the same period, bond mutual funds lagged benchmark returns by -173.6 basis points. Mutual fund expenses averaged 169.2 basis points.

Finland
Finland's retirement system is split between a 75% pay-as-you-go publicly funded pension and a 25% pre-funded pension. In 2011 The prefunded pension funds holds approximately €150 billion. This pool of capital is managed by 37 not for profit organizations; the four largest organizations manage €103 billion.

Ambachtsheer (2013) provides asset allocations, cost, and performance data for a combination portfolio of the seven largest Finnish pension fund managers in a report requested by the government of Finland.

The average asset allocation of the composite pension fund consists of 40% equities, 45% debt, 10% real estate, and 5% alternative investments. The plans overweight Finnish stocks (in comparison to global stock market weights) by holding 17% of the fund in Finnish stocks.

The annual average cost of the composite pension fund is 49.2 basis points. This compares to a 47.4 average basis point expense for global larger funds, and an average 41.3 basis point expense for global smaller funds. Finland's pension funds internally manage 65% of plan assets compared to the 12% average of global pension fund. The cost advantage of internal management is offset by the Finnish plan's higher costs for alternative outsourced assets, mostly Finnish private equity, and hedge funds.

In terms of investment performance, over the 2007 -2011 period, the composite Finland pension fund provided a net 2.5% compound return. This return compares to the 2.1% return of the fund's benchmark. For comparison, the return of global larger funds over the five year period was a net compound 3.5% return (versus a 3.6% benchmark return). The Finland composite fund's lower return is due to the larger, home bias 17% allocation to Finnish stocks, which underperformed the global stock market over this five year period.

Greece
In Greece, pension benefits are provided by a large number of social insurance funds classified as primary, auxiliary and provident funds. According to the Social Budget issued by the Ministry of Labor and Social Security in 2006, there are 175 funds of which 25 are primary funds and the remaining auxiliary and provident funds.

In Greece, public pension funds can invest up to 23% into risky assets and are not allowed to invest outside Greece.

In 2006, the average Greek pension fund held:
 * Cash deposits: 59%
 * Greek bonds and bond mutual funds: 17%
 * Greek equities and mutual funds: 24%
 * Mutual funds: 5%

Angelidis and Tessaromatis (2009) conclude: "Restricting the weight of equities to 23% of the total portfolio, leads to sub-optimal asset allocation that costs as much as 2% (3%) per annum compared to a balanced domestic (global) benchmark."

Netherlands
In the Netherlands, defined benefit pensions are a feature of a "three-pillar" retirement funding system that includes, as one pillar, a state pension that provides a basic income, the level of which is linked to the statutory minimum wage. A third pillar includes individual pension products mainly used by the self-employed and employees in sectors without a collective pension scheme.

The second pillar consists of the collective pension schemes administered by a pension fund or by an insurance company. Participation in collective pension schemes is mandatory, and 90% of the Dutch workforce are covered by these plans. At the end of 2008 there were about 600 pension funds in the Netherlands managing about € 700 billion in invested capital (a sum larger than annual Dutch Gross National Product). The largest fund in the Netherlands has more than 1 million active members and an invested capital in excess of € 150 billion. But there are also funds with less than 100 members and an invested capital of just a few million Euros.

In the Netherlands there are three different types of pension funds:
 * Industry-wide pension funds (for a whole sector, such as the civil service, construction industry, hotel and catering industry or the retail sector)
 * Corporate pension funds (for a single company or a corporation)
 * Pension funds for independent professionals such as medical specialists and dentists.

Huang and Mahieu (2010) explores the performance of Dutch pension plans over the period 1998 - 2006, using a sample of Dutch industry-wide pension funds. Dutch mandatory industry-wide pension funds are obliged by law to publish a performance measure known as a "z-score" to show their net-of-fees investment performance relative to a priori self-selected benchmarks. These scores reflect the implementation quality of the strategic asset allocation.

Huang and Mahieu conclude: "We find that pension funds as a group cannot beat their self-selected benchmarks and show no performance persistence. However, we do find that large funds perform consistently better than small funds. This might be attributed to factors like economy of scale in costs, expertise in asset manager selection, or effective monitoring of asset managers."

The advantages of large size are reflected in Lum (2006) which examines Dutch pension returns from 1996 to 2005. Using the CEM database of 13 Dutch funds with total assets of €369 billion (2005), the study finds that the Dutch pension funds had average annual investment costs of 0.21%; produced a positive 0.60% value added; and registered a positive 0.50% information ratio.

Switzerland
Ammann and Zingg (2008) examine the performance of 73 Swiss pension funds and 13 investment foundations, holding CHF 200 billion, and representing 20% - 25% of Swiss pension assets. The study examines returns over the 1996 - 2006 period. While pension asset allocations are constrained by Swiss law, pension funds can receive exemptions by subscribing to a prudent investor rule. Approximately 80% of Swiss pensions are exempted from the rule.

Swiss investment foundation costs are tabulated below:

Net returns for pension funds are tabulated in the tables below.

Factor regressions supply the following returns data. Domestic and international bonds returns are analyzed using a four-factor performance measurement model that includes a bond and a stock market index as well as two factors representing term and default risk. An additional exchange rate factor is added for international bonds. Stock returns are analyzed using the Fama-French three factor model. An additional exchange rate factor is added for international stocks.

Ammann and Zingg (2008) find no evidence of persistence in pension fund or investment foundation performance.

Hong Kong
In Hong Kong, the Mandatory Provident Fund (MPF) system was implemented on December 1, 2000. Under this system, most employees and their employers are required by law to make monthly contributions to a MPF, which are based on the level of salary and the period of employment. These MPFs are managed by approved private organizations according to criteria set out by the government.

There are three types of MPF schemes:
 * Master Trust Schemes: the most common type of MPF scheme, open to the employees of participating employers, self-employed  persons and persons with accrued benefits to be transferred from other schemes.
 * Employer-sponsored Schemes: membership in this type of scheme is limited to the employees of a single employer and its associated companies.
 * Industry Schemes:schemes specially established for employees of the catering and construction industries, particularly casual employees (i.e. workers employed on a day-to-day basis or for a fixed period of less than 60 days).

FTSE provides a series of MPF tracking indexes.

According to the MPF Schemes Authority fee comparative platform, the average FER (fund expense ratio) of the available funds in the MPF is 1.70%.