South Korea’s NPS to overhaul alternative investment teams before 2019

The National Pension Service of Korea (NPS) has adopted a proposal to reorganise its six alternative investment teams into three divisions based on the private equity, real estate, and infrastructure asset classes, a source familiar with the matter told sister publication PDI.

NPS has been in the process of reorganising in the fourth quarter of 2018, including implementing a new structure for alternative investment divisions, the source told PDI, confirming an earlier Bloomberg report. However, details on the reporting lines for each asset class division could not be confirmed by the time of publication.

The source added that the Korean pension fund is working on finalising a new organisational structure by 31 December. The final decision on the proposal is intended to come into force in 2019 only if both the National Pension Fund Operation Committee and South Korea’s minister of health and welfare guarantee the approvals.

The Ministry of Health and Welfare oversees major decisions regarding Korea’s national pension fund via the National Pension Fund Operation Committee, which rules on matters concerning the operation of the vehicle, such as yearly budgeting and the asset allocation level of the investment management department, according to Article 103 of the National Pension Act of Korea.

It is likely the pension fund has introduced the changes in a move to start a new era under new chief investment officer Hyo-Jun Ahn, who was appointed in October.

Last Monday, the pension fund announced that Seong-Tae Park, a former head of the risk management centre at NPS, was appointed as the new head of NPS’s operation and strategy division.

Despite the recent hires, at least two of eight key positions at the pension fund remain vacant. A statement revealed NPS was seeking a new head of the alternative investment division as of 10 December, adding that it plans to fill this vacancy internally by the year-end.

PERFORMANCE MEASURES AND PAYOUTS

NPS’s in-house investment professionals’ performance-related pay is measured in three metrics: individual target payout, organisational payout, and long-term performance payout.

As a minimum requirement for the performance incentives, NPS’s investment team must outperform the average three-year consumer price inflation rate in South Korea. In 2017, the CPI rate in the country was 1.21 percent and NPS’s three-year average overall investment portfolio return rate was 5.5 percent.

Although the committee’s minutes refer to ‘long-term’ records for performance assessment methods, the investment management department has been conducting a yearly performance review based on the three-year average return rate for the yearly target payout.

It also uses an average five-year investment return rate for long-term performance payouts, according to the NPS performance report for 2017 provided by the National Pension Fund Operation Committee on 4 July 2018. It adds that the maximum performance-based incentive cannot exceed a 130 percent maximum cap of base salary.

This applies to all investment professionals from the new CIO to the most junior portfolio manager, another source confirmed, adding that, although there is a degree of flexibility for alternative investment professionals when calculating a three-year average return rate, considering the J-curve effect seen in private investments.

However, it is unclear how domestic and international alternative investment professionals will be compensated for their performance within the new organisational structure.

For example, the five-year average return rate from domestic alternatives investment was 6.6 percent, while that of international alternatives investment was 10.51 percent, as of end-July, the performance report shows.

In addition, it is hard to change the current performance assessment method and process considering the complex decision-making structure in relation to staff remuneration, says another source with knowledge of the matter.

Public disclosures show the NPS investment management department’s performance distribution process involves at least three different groups: the National Pension Fund Operation Committee for a division level; a sub-committee of the pension’s National Pension Fund Operation Committee designated for discussions on the division-level remuneration rate, based on qualitative criteria; and the risk management centre, which assesses performance data for an individual investment professional’s access returns achieved against their benchmark.

NPS’s yearly performance review happens during the second quarter of the following year, said the source. Investment professionals get compensated for the previous year’s results.

Critics have pointed out the absence of a long-term benchmark for its investment horizon. At the public hearing held in October, it was suggested NPS’s investment management department should adopt a ‘long-term asset allocation strategy’ to measure its investment performance over the course of 10 years.

NPS managed 643.4 trillion South Korean won ($572.7 billion; €503 billion) in assets as of 31 July 2018. Its alternatives portfolio currently stands at 10.7 percent of that total, slightly below its 12.5 percent target.

Last month, it announced two commitments of 150 billion South Korean won each to two domestic funds focused on renewable energy and managed by Samchully Asset Management and Shinhan Alternative Investment Management, respectively.

The pension fund’s total AUM is expected to exceed $1 trillion by 2025, according to the minutes of the fourth National Pension Fund Operation Committee meeting, released in July 2018.