(Pix (C) Larry Catá Backer 2014)
This Blog Essay site devotes every February to a series of integrated
but short essays on a single theme. For 2014 this site introduces a new
theme: Reimaging the State in the Global Sphere: An Inventory of Sovereign Wealth Fund as Regulator and Participant in Global Markets.
There have been a number of studies that have sought to provide an overarching structure for understanding SWFs. The easiest way to to this is tp find the largest and most influential funds and then extrapolate universal behaviors or characteristics from them. This is a useful enterprise, it may erase substantial nuance that itself might provide the basis for a deeper understanding of SWFs within globalization and in the context of a state system in which not all states are created equal. In this sense, while the large SWFs are better known, they do not define the entire field of emerging SWF activity. This study provides a brief critical inventory of the emerging communities of sovereign wealth funds. Each post will consider a different and less well known SWF. Taken together, these brief studies might suggest the character and nature of the emerging universe of SWFs, and their possible rationalization.
This Post considers the Chilean Pension Reserve Fund and Economic and Social Stabilization Fund.
There have been a number of studies that have sought to provide an overarching structure for understanding SWFs. The easiest way to to this is tp find the largest and most influential funds and then extrapolate universal behaviors or characteristics from them. This is a useful enterprise, it may erase substantial nuance that itself might provide the basis for a deeper understanding of SWFs within globalization and in the context of a state system in which not all states are created equal. In this sense, while the large SWFs are better known, they do not define the entire field of emerging SWF activity. This study provides a brief critical inventory of the emerging communities of sovereign wealth funds. Each post will consider a different and less well known SWF. Taken together, these brief studies might suggest the character and nature of the emerging universe of SWFs, and their possible rationalization.
This Post considers the Chilean Pension Reserve Fund and Economic and Social Stabilization Fund.
Like Ghana (Part
2: Ghana Petroleum Funds--Reimaging the State in the Global Sphere: An
Inventory of Sovereign Wealth Funds as Regulator and Participant in
Global Markets), Chile has developed two funds for distinct purposes, a Pension Reserve Fund and an Economic and Social Stabilization Fund. Both grew out of the Fiscal Responsibility Law enacted in 2006 and both fall under the jurisdiction of the Ministry of Finance (Ministerio de Hacienda). This FRL provided for the establishment of two
sovereign wealth funds along with the institutional framework for their management. The Pension Reserve Fund (PRF) (Fondo de Reservas de Pensiones (FRP)) was created in 2006, followed shortly thereafter in 2007 by the establishment of the Economic
and Social Stabilization Fund (ESSF) (Fondo de Estabilización Económica y Social (FEES)). "The sovereign wealth funds are the property of all Chileans. They
are a national asset that provides stability in social spending and
public investment." (Ministry of Finance, What is the policy on transparency for Chile’s sovereign wealth funds?).
Per the Ministry of Finance:
Unlike many SWFs established to create a disciplinary fiscal structure around the exploitation of petroleum, the foundation of Chile's funds was copper and related extractives (Erling Steigum, Sovereign wealth funds for macroeconomic purposes, Rapport till Finanspolitiska rådet 2013/4, p. 6). The investment guidelines for the RPF (in Spanish) may be accessed here. The PRF is organized as an account in the Central Bank of Chile. Unlike Norway, the SWFs investment is not principally index driven, but involves active management by thrid parties through the Central Bank and subject to oversight by the Finance Ministry.
The Ministry of Finance describes its ESSF as follows:
The investment guidelines for the ESSF (in Spanish) may be accessed here. The ESSF is organized as an account in the Central Bank of Chile. The portfolio composition is quite conservative.
The Investment Guidelines for both funds are substantially similar. Both funds may be operated through arrangements with paid third party service providers to handle investments (§ I.2). The Ministry of Finance has overall control of investment policy and thew administration of the Funds (§I.3). Respnsible investment, on the Norwegian model, does not appear to play a large role in SWF management. Instead, like its sister fund in Ghana, the SWFs are viewed as externally financed disciplinary means of effecting macroeconomic policy by meeting the internal financial and development needs of Chile--the protection against adverse effects of global cycles and the need to ensure the financing of social welfare obligations (Andrew Ang, The Four Benchmarks of Sovereign Wealth Funds, Columbia Business School 10 Oct. 2010, p. 11 ("Recently in 2010, Chile used proceeds from its SWF to help rebuild earthquake-damaged areas." Ibid., p. 11)).
The annuals reports of the SWFs may be accessed here;
Also of use:
Per the Ministry of Finance:
The Pension Reserve Fund (PRF) was established on December 28, 2006 with an initial contribution of US$ 604.5 million. It was set up in response to Chile’s new demographic scenario characterized by an increase in life expectancy and the growth of senior citizen population, adding on yet another challenge for the Government in terms of greater future retirement expenditures and the need to guarantee basic solidarity pensions to those who were not able to save enough for their retirement.
The PRF’s objective is to support financing of government obligations arising from the government’s guarantee to basic old-age and disability solidarity pensions and solidarity pension contributions arising from the pension reform. Accordingly, this fund serves as a supplementary source for the funding of future pension contingencies.
Pursuant to the Responsibility Law, PRF’s capital increases each year by an amount equivalent to 0.2% of the previous year’s gross domestic product (GDP). If the actual fiscal surplus exceeds 0.2% of GDP, the PRF receives a contribution equivalent to said surplus, up to a maximum of 0.5% of GDP.
This accumulation rule allows for new resources to be allocated to the fund in any given year regardless of the fiscal situation facing the country each year. (Ministry of Finance, Pension Reserve Fund)
Investment is quite conservative. "The new scheme moves closer to a Type D fund (15% in equities), which is more in line with the return objectives and risk profile identified for the PRF. In sum, the risk tolerance remains low, while the investment policy is more consistent with the underlying liability that needs to be financed in the future." (Annual Report Sovereign Wealth Funds 2011 p. 46). This from the Ministry of Finance:Investment objectives: the PRF’s principal objective is to generate resources to finance part of the fiscal pension liabilities. To this end, it has established the specific objective of maximizing the expected return subject to a risk tolerance defined as a 95% probability that, in a given year, it will not suffer a loss of more than 10% of its value in dollars. Given the size and timing of the liabilities it is designed to finance, the PRF has a medium to long-term investment horizon.Strategic asset allocation: the current investment policy, implemented in January 2012, has the following asset allocation: 48% in nominal sovereign bonds, 17% in inflation indexed bonds, 15% in equity and 20% in corporate bonds.Benchmarks: a benchmark has been defined for the each asset class:
Asset Class Percentage of the Portfolio Benchmarks Sovereign and Government Related Bonds (a) 48% Barclays Capital Global Aggregate: Treasury Bond Index (unhedged) Barclays Capital Global Aggregate: Governmen-Related (unhedged) Inflation Indexed Sovereign Bonds (real) 17% Barclays Capital Global Inflation-Linked Index (unhedged) Corporate Bonds 20% Barclays Capital Global Aggregate: Corporates Bond Index (unhedged) Equity 15% MSCI All Country World Index ex Chile (a) Each sub-index of this asset class is weighted according to its relative capitalization size. Management: sovereign and government related bonds, and indexed inflation linked bonds portfolios are managed directly by the Central Bank of Chile, as a Fiscal Agent. Equity and corporate bonds portfolios are externally managed by asset managers hired by the Central Bank of Chile. The external managers were selected through a bidding process carried out in 2011.Tracking error ex ante limit: the limit for tracking error ex ante for the portfolio composed of sovereign and government related bonds, and indexed inflation bonds is 50 basis points. The limits for the equity and corporate bonds portfolios are 60 and 50 basis points, respectively.Eligible currencies and issuers: only currencies and issuers included in the benchmarks are eligible for each asset class.Eligible investments: the investment guidelines describe in detail the eligible investments in the Pension Reserve Fund.Leverage and derivatives: Leveraged is not allowed. The use of derivatives is restricted to:Investment guidelines: The investment guidelines, which are available in this section, provide additional information about the investment policy of the Pension Reserve Fund, such as the rebalancing policy, deviation ranges, and other important issues concerning the fund’s management. (Ministry of Finance, PRF, Investment Policy; see also Annual Report Sovereign Wealth Funds 2011 p. 45).
- Central Bank Portfolio: forwards and swaps are allowed only for currency hedging purposes. The notional amount of forwards or swaps engaged with a specific eligible counterparty cannot exceed 1% of the portfolio managed by the Central Bank. In addition, the aggregated notional amount of forwards or swaps cannot exceed 4% of the portfolio.
- Equity and Corporate Bonds Portfolio: forwards and swaps are allowed only for currency hedging purposes. Futures contracts are allowed only for hedging purposes or for gaining exposure to some part of the benchmark. The notional amount of forwards or swaps that each manager engages with a specific eligible counterparty cannot exceed 1% of the portfolio managed by each manager. In addition, the aggregated notional amount of futures, forwards or swaps cannot exceed 10% of the portfolio for each manager.
As of December 2013
Portfolio by Asset Class MM US$ % of Total Sovereign and Government Related Bonds 3,431.55 46.8 % Inflation Indexed Sov. Bonds 1,233.25 16.8 % Corporate Bonds 1,453.66 19.8 % Equity 1,216.65 16.6 % Total 7,335.11 100.0 %
The Ministry of Finance describes its ESSF as follows:
The Economic and Social Stabilization Fund (ESSF) was established on March 6th, 2007 with an initial contribution of US$2.58 billion, much of which (US$ 2.56 billion) was derived from the old Copper Stabilization Fund, which was replaced by the ESSF.
The Economic and Social Stabilization Fund allows financing of fiscal deficits and amortization of public debt. Thus, the ESSF provides fiscal spending stabilization since it reduces its dependency on global business cycles and revenue’s volatility derived from fluctuations of copper price and other sources. For example, budget reductions originated from economic downturns can be financed in part with resources from the ESSF, reducing the need for issuing debt.
According to the Fiscal Responsibility Law, the ESSF receives each year the positive balance resulting from the difference between the effective fiscal surplus and the contributions to the Pension Reserve Fund and to the Central Bank of Chile, discounting the payment of public debt and advances made the year before. (Ministry of Finance ESSF).
The investment guidelines for the ESSF (in Spanish) may be accessed here. The ESSF is organized as an account in the Central Bank of Chile. The portfolio composition is quite conservative.
In keeping with the ESSF’s objectives, the main aim of its investment policy is to maximize the fund’s accumulated value in order to partially cover cyclical reductions in fiscal revenues while maintaining a low level of risk. Its risk aversion is reflected by the choice of an investment portfolio with a high level of liquidity and low credit risk and volatility, thereby ensuring the availability of the resources to cover fiscal deficits and preventing significant losses in the fund’s value.This from the Ministry of Finance:
Strategic asset allocation: the current ESSF’s investment policy has the following strategic asset allocation: 34% in money market instruments (15% in bank deposits and 19% in treasury bills), 55% in sovereign bonds, 3.5% in inflation linked sovereign bonds and 7.5% in equity. The currency makeup of the fixed income portfolio is: 40% USD, 25% Euro, 20% Japanese Yen and 7.5% Swiss Franc. (Ministry of Finance, ESSF Investment Policy).
As of December 2013
Investments and duration by credit exposure:
Sector Market Value (US$ MM) Duration (years) % Fund Banks 2,722.58 0.2 17.7% Sovereigns 11,450.71 5.8 74.3% Equity 1,245.83 - 8.1% Total 15,419.13 - 100%
The Investment Guidelines for both funds are substantially similar. Both funds may be operated through arrangements with paid third party service providers to handle investments (§ I.2). The Ministry of Finance has overall control of investment policy and thew administration of the Funds (§I.3). Respnsible investment, on the Norwegian model, does not appear to play a large role in SWF management. Instead, like its sister fund in Ghana, the SWFs are viewed as externally financed disciplinary means of effecting macroeconomic policy by meeting the internal financial and development needs of Chile--the protection against adverse effects of global cycles and the need to ensure the financing of social welfare obligations (Andrew Ang, The Four Benchmarks of Sovereign Wealth Funds, Columbia Business School 10 Oct. 2010, p. 11 ("Recently in 2010, Chile used proceeds from its SWF to help rebuild earthquake-damaged areas." Ibid., p. 11)).
The annuals reports of the SWFs may be accessed here;
Annual Report
Annual Report Sovereign Wealth Funds 2011
Annual Report Sovereign Wealth Funds 2010
Annual Report Sovereign Wealth Funds 2009
Annual Report Sovereign Wealth Funds 2008
Also of use:
Un Asset Allocation para el FEES (Informe resumen) - 2011 26/12/2012
PDF / 4696 KiB
Estudio Actuarial FRP - 2010 26/12/2012
PDF / 1063 KiB
Strategic Asset Allocation Analysis - 2008 26/12/2012
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