Japan Weighs More Risk in Pension

By MARIKO SANCHANTA And MEGUMI FUJIKAWA

TOKYO—Japan's public pension fund, the largest in the world with assets totaling 123 trillion yen ($1.433 trillion), is weighing the idea of investing in emerging-market economies in order to gain higher returns as it faces a wave of payout obligations over the next four to five years, the fund president said in an interview.

The Government Pension Investment Fund, which has roughly 67.5% of its assets tied up in low-yielding domestic bonds, is selling a record four trillion yen of assets by the end of March 2011 to free up funds for payouts to Japan's aging population. By the year 2055, 40% of all Japanese are expected to be over 65.

Some U.S. public pension funds face similar issues. Burned by the financial crisis, some are rethinking their commitments to assets that tie up cash, such as real estate, while others are on the hunt for higher returns to make up lost ground and support swelling obligations to their pensioners.
Japan's situation has its own distinguishing factors. Japan now has a record proportion of older people, with 21% over 65 years old, according to the Ministry of Internal Affairs and Communications. Within Japan, debate has been brewing over how the pension fund, also known by the acronym GPIF, allocates its assets in the near term, given the shrinking number of workers who pay pension contributions.

In addition to the roughly 67.5% of the fund's assets in domestic bonds, including government and corporate bonds, 12% are in Japanese stocks, 10.8% in overseas shares, and 8.3% in foreign bonds.

Takahiro Mitani, president of the pension fund, said in an interview the fund could face a few years in which its payouts exceed its incoming contributions.

We "may face difficulty in the next four to five years…we currently have a hard time catching up with payouts since wages have been on a downtrend recently," he said.

Mr. Mitani said the fund won't sell just domestic bonds. "It could be [Japanese] stocks or foreign-currency-denominated securities or stocks," depending on market conditions, he said.

Some have been urging the pension fund to invest in higher-risk, higher-return assets, or prodding it to consider setting up a Singapore-style sovereign-wealth fund. The yield on the 10-year Japanese government bond is 1.075%.

"They need to take on more risk," said John Vail, chief global strategist at Nikko Asset Management. "Global equities are a wise investment for the GPIF, especially with equities being so inexpensive."

Mr. Mitani said his mandate is to invest in "safe" assets with a long-term view.

"In 2008 after the collapse of Lehman, while we posted a negative result we were relatively better than overseas pension funds thanks to our conservative, cautious stance. We posted only a single-digit loss, while others posted a double-digit loss," he said.

The California Public Employees' Retirement System, known as Calpers and the largest in the U.S. with assets of about $200 billion, reported a 23% slump in the year ended June 30, 2009. Some of the biggest hits were from alternative investments like real estate, an investment area Calpers has been retooling. In comparison, the GPIF reported a 7.6% slump in the fiscal year ended March 31 2009.

In terms of possibly investing in emerging markets, Mr. Mitani said it is unlikely the GPIF would focus on one country, such as China.

"One of our basic investment philosophies is to have diversity in our investment. So, it's hard to imagine for us to invest in a China-exclusive fund, for instance…we would diversify our investment to a certain degree when investing in emerging markets," he said.

In the U.S., New Jersey officials are contemplating upping the pension plan's "alternative investments," which include typically less-liquid investments such as real estate and hedge funds. The state's investment council this week recommended that the fund should be allowed to increase its alternative-investment allocations to as high as 38% from the maximum of 28% of its total investments.

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Takahiro Mitani said the fund could face a few years in which its payouts exceed its incoming contributions.
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"In a world in which public-market equity returns have been relatively unexciting, but much more volatile, and in which bond yields are low single digits, it makes sense to at least consider assets which can improve returns on a risk-adjusted basis," said Robert Grady, the council's newly elected chairman and a managing director at Cheyenne Capital Fund, a private-equity firm.

A spokesman for the state Treasury Department said it would take several months before any changes can be enacted.

Mr. Mitani, of the Japan pension fund, expects the 10-year Japanese government-bond yield to stay mostly below 1.5% for the next two to three years, although it may break above that point temporarily. Others are less convinced. Some hedge-fund investors, such as Kyle Bass of Hayman Advisors LP, argue that the shift by the Japanese pension fund to sell Japanese government bonds, even as Japan competes with governments around the world to attract investors to its bonds, will push Japanese government-bond prices lower, sending yields much higher.

For his part, Mr. Mitani said he isn't too concerned about the risk that government-bond prices will plunge due to fears about increasing supply.

"If financial firms keep receiving ample funds from [the Bank of Japan], if companies remain reluctant to borrow, and if individuals keep savings at banks, there's no choice but to purchase government bonds," Mr. Mitani said.
—Michael Corkery and Gregory Zuckerman contributed to this article.

Write to Mariko Sanchanta at mariko.sanchanta@wsj.com and Megumi Fujikawa at megumi.fujikawa@dowjones.net