[Interview] Korea firemen’s fund eyes overseas structured bonds, office buildings in advanced markets

  • 2016-06-12

Korea Fire Officials Credit Union, managing $520 million in assets, will boost its exposure to structured bonds and alternative assets in developed markets this year, as it is stepping up efforts to attract new members and increase contributions with higher yields and various products.

The savings fund for South Korea’s firefighting officials has already been heavily weighted towards bonds and alternative investments, which made up as much as 86% of its financial assets last year. In particular, the credit union has been lifting the proportion of alternative assets steadily over the past few years, although it has no exposure to overseas real estate yet.

“Across the board, we will raise the proportion of investments in overseas advanced markets, including the United States and Europe,” said Hong–Kwan Jeong, the chief investment officer of the firefighters’ credit union told the Korea Economic Daily in a recent interview.

“We are studying investing in offshore structured bonds or office buildings in developed countries,” said the CIO, adding that its prospective investment in foreign office buildings would be made jointly with other investors, given its small asset size.

On bonds, the credit union, of which assets under management are projected to top 1 trillion won ($86 billion) later 2018 or around 2019, will continue to focus on structured bonds, setting it apart from other domestic savings funds which stand clear of structured debts.

In 2016, the credit union plans to raise the proportion of bonds slightly to 56.1% of its portfolio from last year’s 54%. Alternative investments are likely to account for 33.79%, up from 31% in 2015.

By comparison, the proportion of equities is expected to remain steady at 10.11%, versus last year’s 10.16%. Unidentified liquid assets made up the balance of its financial assets worth 533.7 billion won ($460 million) at the end of last year.

For alternative assets, the credit union, established in 1984, is expected to allocate about 20 billion won in new investment this year.

“On alternative investments, we will commit about 5 billion won to 10 billion won per case,” said Jeong. He noted that the credit union would tread carefully in new investments until its assets under management reaches 1 trillion won

Overall, it is aiming for a 4.12% return for the whole of this year, slightly lower than last year’s 4.37% and 4.50% in 2014.

Jeong took office as the CIO of the credit union last December. Previously, he had worked at former Daehan Investment Trust (currently, Hana Financial Investment) for 25 years, holding various positions there including head of asset management and a research team manager. He studied economics in Pusan National University in South Korea and earned a Master’s degree from the same college.

The following are Q&As with CIO Jeong.

Q: Please give us a brief explanation of your assets

A: “We have an 83% penetration rate among about 40,000 fire officers. My goal is to raise it to 99.9%. Given the total number of firefighters at 40,000, we have limitations on increasing the number of members, so my goal is to raise contributions per head. Despite our per-capita contribution ceiling of 3 million won, the average contribution is only 250,000 won now. That’s why our assets stay at just 600 billion won ($520 billion). Our priority is on increasing our asset size.”

“On top of high rates of returns, I think we need to roll out many products. We started to offer an installment-payment (pension type) product from the start of this year and a large-sum trust from March.”

Q: How fast would you expect AUM to grow? And how would your future asset management strategy evolve down the road?

A: “It would be reasonable to say that it will increase by about 100 billion won per year. We expect to reach 1 trillion won by the end of 2018 hopefully, or around 2019. Large-sum trusts will serve as a new source of money inflows.”

“Once AUM exceeds 1 trillion won, our management direction will differ from the current one. We will be able to be aggressive in alternative investments. We can also do direct investments in equities.”

Q: How about your rate of returns?

A: “It is definitely higher than market rates, but lower than the other savings funds’. We are in the decision-making process on whether to adjust the target rate. I’m on the side of demanding a rise in the rates paid to our members. Our retirement benefit products offer 3.3%, and large-sum trusts offer 2.16% which I think we have room to raise to 2.7%. Although higher rates put a burden on the management side, I think it is important to increase the overall size of our association, so we have to raise the target rate of returns.”

Q: Please tell us your asset allocation plans for this year.

A: “Excluding real estate assets, equities represent 10.11% (2.1% for domestic, 8.01% for overseas), bonds make up 56.1% (37.34% for domestic, 18.76% for overseas), and alternative investments are 33.79%.”

“Regarding bonds, we will increase the proportion of overseas bonds, while lowering that of domestic ones. Expected returns of domestic bonds are way too low, compared to our target rates.”

Q: Any reason to exclude real estate from asset allocation plans?

A: “It is difficult to measure volatility and expected returns of real estate assets. We own a condominium for both business and welfare service. When it comes to lodging business, it takes time to make a profit. Last year, we earned a 6.55% from the real estate business.”

(Note: The credit union runs real estate business worth 46.3 billion won which includes its head office, a condominium and a warehouse in the country, separately from financial assets. The 6.55% yield from the real estate business last year was higher than the 4.4~4.5% returns it earned from bonds and alternative investments during the same period, according to its website.)

Q: On real estate investment returns, do you mean returns from some property assets your association owns, instead of returns from overseas or domestic property funds?

A: “That’s right. Most of the returns stem from rental incomes.”

Q: Is overseas property included in your alternative investments?

A: “No. We have invested about 4 billion won in an airplane and have some exposure to investment loans.”

Q: Of overseas alternative investments, which sectors are you interested in?

A: “We don’t have any particular sector we are interested in. Because of our small asset size, we cannot help being conservative, so we make investments based on fundamentals. We never invest where we have no knowledge about.”

“We are now looking at office buildings in developed markets, taking account of LTV (loan-to-value) ratios. If we invest in an airplane again, we cannot take advantage of investment diversification, given our small asset size.”

Q: Regarding overseas office building investment, are you going to do it jointly with other institutions?

A: “That’s right. It is difficult for us to do it alone.”

Q: Which procedures do you go through to pick investment targets?

A: “We have networks with local investment teams. Also, investment companies came up with investment proposals. When there are a few draft investment plans ready, we present them to our fund management committee and make a decision.”

Q: What is your target rate of return for this year?

A: “We are aiming for 4.12% this year. If (an investment’s target return is) mid-5%, we will be okay with it. We usually take a long time to make an investment decision. But we cannot help it because we don’t have enough money.”

Q: How much have you earmarked for alternative investments this year, and how many cases are you going to invest in?

A: “Other than investments (to be financed by cash inflows) from capital calls, we have to commit a fresh 20 billion won or so. We are trying not to commit over 10 billion won per case. Considering that we usually split it to 5 billion to 10 billion won per case, it would be two to five cases.”

Q: How have you divided alternative investments between overseas and domestic ones?

A: “We have not set the ratio. It may depend on which assets will be up for grabs. If we invest in domestic alternatives, we are highly likely to invest in SOC (social overhead capital) projects which could be privately-run roads, etc. We have invested in small-sized SOC projects.”

Q: How do you manage overseas equities assets? And which markets are you focused on for overseas equities investments?

A: “We are doing it indirectly. We don’t think we have capacity or capability to do it directly. We are going to select domestic asset management firms to make indirect investment this year, too.”

“We are focused on developed counties including the United States and Europe. Japan is not in there. Nor do we invest in emerging markets.”

Q: Any reason that equities make up a small portion of your portfolio?

A: “Taking account of expected returns which we set by ourselves, we don’t think they are good enough to invest in.”

Q: Your stock portfolios yielded a return of 6.52% last year. What was the key reason?

A: “The management firms did a very good job. And the (management) size itself was tiny.”

Q: Do you take a passive approach to equities?

A: “No. we do not make passive investments at all. We have been doing active management and will continue to do so this year. In passive management, it is hard to make value investments.”

Q: Do you usually pick stocks for your asset management firms?

A: “No. We give guidelines on our investment principle and directions, based on which they manage them.”

Q: Are you planning to replace stock management firms?

A: “Instead of replacement, we are planning to select new stock management firms in addition to the existing ones to handle a net increase in investment amount. We will complete the selection either at the end of the first half or early in the second half.”

“We will choose them, based on the conventional benchmark indexes, not based on last year’s rate of return.”

Q: It seems that you are heavily weighted towards bonds. Are you going to continue to allot half of new investments to bonds?

A: “We will apply the current investment proportions to new investments, too. That is, if we have new inflows of 100 billion won, we invest about 50 billion won in bonds.”

Q: Bond portfolio generated a 4.44% return last year. What was the reason for the solid performance?

A: “We have invested in numerous structured bonds, including DLB (derivative-linked bond) and CLN (credit-linked note) which have long maturities. Still, a number of investments we had made long before remain.”

“We will focus on structured bonds. Some of them yield close to 5%. If they deliver a mid-4% (return) for a 10-year period, we will be oaky with them. Bonds and real estate are our specialty areas, as well as SOC.”

Q: For overseas bonds, are you also looking at developed markets?

A: “That’s right. We are looking to invest in developed countries for both stocks and bonds. Emerging markets are highly volatile. For example, we lost a lot from Chinese ELS. We won’t invest where the principal is not guaranteed. Personally, I don’t trust ELS products.”

Q: How about venture capital investment?

A: “It is difficult for us to invest in venture capital. Because there are plenty of new businesses, we have to have a deep knowledge about those new companies.”

Q: Are you going to invest in domestic blind-type private equity funds?

A: “Not yet. If we do, we will make separate, project-based PEF investments. There is something we have to look into and study from investments, even if we may not participate in the decision-making process. But in the case of blind funds, we are just sitting on our hands and waiting for returns. We are still in the middle of building our capability.”

Q: Have you invested in project-based PEF?

A: “No. We implemented a housing-related investment at the end of last year. On the conditions that LH (Land & Housing) Corporation takes over 100% of selling rights, we made lending investment.”

Q: How many asset management staff do you have?

A: “Three for bonds, two for stocks and three for real estate. Including me, there are nine people.”

 

By Dong-hun Lee

dhlee@hankyung.com

<Edited by Yeonhee Kim>