The $217bn public pension fund is adding private corporate debt to its portfolio as part of a five percent allocation to global alternatives.
By Adalla Kim | 20 July 2018

Japan’s Pension Fund Association for Local Government Officials, known locally as Chikyoren, has issued a Request for Proposals (RFP) as it searches for private debt, infrastructure, real estate, and private equity investment managers in Japan and overseas, according to its latest announcement. The RFP includes the first mandate dedicated to private debt investments.

Chikyoren is looking to invest in both domestic and offshore private debt via asset managers. Qualifying managers should have assets under management of over 100 billion yen ($885 million; €762 million) as of end-March, including the amount managed via trust accounts, the announcement states.

A senior investment officer overseeing the hiring process told PDI that Chikyoren is looking for private corporate debt opportunities both in the US and Europe.

Its prospective total commitment to alternatives will be made from one of two accounts being managed by the association. “The size of this capital pool accounts for five percent of our total assets under management,” the officer noted.

Its current exposure to alternatives stands at 0.4 percent, while the maximum allocation for alternatives is set at five percent of total assets – representing about 1.2 trillion yen ($10.7 billion; €9.1 billion) of its 23 trillion yen in total assets under management, as of end-March (the fiscal year 2017 ends on 27 March).

Further details regarding selection process and return expectations were not disclosed. There is no set deadline for submission of proposals nor a pre-determined commitment size for each mandate.

Chikyoren’s manager registration system operates on a rolling basis, similar to that of its larger peer, the Government Pension Investment Fund (GPIF) of Japan, which accepts proposals all year round and makes investment decisions accordingly.

It has gained exposure to illiquid credit via infrastructure debt and real estate debt investments.

Between June 2016 and March 2018, Chikyoren invested a total of 18.3 billion yen through four overseas infrastructure mandates, according to its latest annual report available only in Japanese.

These include a 3.4 billion yen commitment to Mitsubishi UFJ Trust Bank targeting European regulated assets, which delivered an annualised return of five percent in the fiscal year 2017.

A 3.5 billion yen mandate with JPMorgan Asset Management to invest in core infrastructure in OECD countries delivered an annualised return of 10.3 percent, while a 1.5 billion yen investment with Tokio Marine Asset Management targeting Australian assets, had generated a negative annualised return of 1.42 percent between July 2017 and March 2018.

The largest mandate of 9.9 billion yen landed with Mizuho Global Alternative Investments to invest in infrastructure debt globally. That had delivered a return of 0.77 percent during the last fiscal year.

The public pension has also awarded five real estate mandates for overseas and domestic investments and two domestic private equity mandates over the past two years.

Chikyoren manages the second largest pension pool in Japan after after the $1.4 trillion sized GPIF. Its assets come from pension reserves for members of local government organisations. It is the first among public pensions to issue an RFP for alternative investments in a bid to diversify its portfolio from a long-term investment perspective.

These institutions prefer floating rate-based loans to mitigate foreign currency hedging risks.
By Adalla Kim | 3 August 2018

More Japanese institutions are part of the alternative credit landscape this year.

Following Pension Fund Association for Local Government Officials’ announcement last month regarding its planned debut in private corporate debt investment, the world’s largest pension fund, Government Pension Investment Fund (GPIF), confirmed to PDI this week that it has existing exposure to alternative lending via a trust account.

GPIF’s commitment, sized at ¥8.2 billion ($73.4 million; €63.4 million), is for a direct co-investment along with International Finance Corporation and Development Bank of Japan, according to a spokesperson from the pension administrator.

It classifies this investment as an international equity allocation given its asset mix criteria as the commitment is held in a trust. A senior officer from IFC Asset Management Company declined to disclose details on investment targets and the name of the vehicle.

Regardless of which classification investors choose to record their investments, one notable theme seen among Japanese institutions that PDI spoke with is that they prefer lending against real asset collateral when making alternative credit investments.

“We are interested in real asset loans such as project-based debt financing,” said a senior offshore alternative investment officer from a Japanese institution who asked not to be named. He added that to achieve higher returns from private credit markets, his organization had chosen real estate debt and infra debt strategies.

Another example is Japan Post Bank, one of the two units of Japan Post Holdings, a holding company overseeing postal, banking, and insurance businesses. Its current alternative credit investment exposure includes mezzanine debt, distressed debt, infrastructure debt, and real estate debt fund commitments.

PDI understands that Japan Post Bank prefers non-recourse loans for real asset debt strategies as the bank seeks low correlation with systematic risk and underwriting based on the projected cash flow from specific transactions only.

Japan Post Bank also disclosed its existing exposure to senior secured direct lending funds, according to its latest mid-term management plan published on 15 May. It revealed to Private Equity International, a sister publication of Private Debt Investor, in March that it will focus on the US and European direct lending markets to seek a meaningful liquidity premium in exchange for the risk.

Although detailed figures were not disclosed, the bank plans to ramp up its alternative investments, targeting four percent of its total investment portfolio by end-March 2021.

Japan Post Bank’s alternative exposure is sized at 8.5 trillion yen ($76.1 billion; €65.5 billion) or one percent of its total portfolio assets as of end-March, according to the material.

INFRASTRUCTURE DEBT

Infrastructure debt is an asset class that has been attracting Japanese investors for the last five years.

Most recently, Dai-ichi Life Insurance Company, known as one of the most active Japanese institutions in alternative investments among its peer group, disclosed its anchor commitment of £70 million (¥10 billion; $92.4 million) to M&G Infrastructure Loan Fund.

The loan fund is a European infrastructure debt fund launched in March, targeting project finance loans and bonds for public-private partnerships (PPP) and infrastructure projects in Europe.

Jack Wang, a fund manager at Mizuho Global Alternative Investment, a Tokyo-based investment arm of Japan’s Mizuho Financial Group told PDI in April that it is possible for investment managers to mitigate cyclicality of the global credit market at a degree by investing in assets with long-term contracts with strong counter parties.

A deputy general manager in the offshore alternative investment team from a Japanese insurance firm told PDI that the insurer has committed to infrastructure debt, mezzanine debt, and direct lending strategies. He added that it has been expanding its investment in alternative investments to generate yield amid the low interest rate environment.

However, there are at least two aspects of infrastructure debt investment that investors should be especially careful about. “We should assess how vulnerable the project itself would be and what the structure of these projects is like in the initial stages,” Wang added.

According to a director of a Japanese institution who oversees offshore alternative investments, the biggest concern he has when looking at investment opportunities is the cost of hedging the Japanese yen against foreign currencies, adding that, whether or not general partners can provide a forex hedging solution is an important consideration.

Two industry practitioners told PDI that now, investors have to discount as much as 200 or 250 basis points on foreign currency exchange risk against the US dollar. “That is a significant effect on our investment returns,” one source added.

Given this, Japanese investors are watching out for US interest rate changes given that the foreign currency hedging cost results from a gap in the interest rates between the two countries. This has implications for the higher return expectations from overseas investment among Japanese institutions.

“Almost all Japanese investors have exposure [to these assets] in [Japanese] yen. They prefer a floating rate-based return structure as this feature can naturally hedge some of the costs borne by currency hedging,” Wang said.