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Will Japan's pension whale make waves this year?

Japan's Government Pension Investment Fund is one of the world's biggest institutional investors. It held some 20 trillion yen in Japanese stocks at the end of September.

TOKYO -- Japanese lawmaker Kozo Yamamoto's annoyance was beginning to show as he listened to welfare ministry officials utter one noncommittal response after another. "I have absolutely no idea what you're saying," he told them.

     It was early last December, and Japan's ruling Liberal Democratic Party was trying to pressure the ministry to hurry up and realign the Government Pension Investment Fund's bond-heavy portfolio. The conservative GPIF manages some 120 trillion yen ($1.15 trillion) in assets, making it one of the world's biggest institutional investors.

     Yamamoto, part of Prime Minister Shinzo Abe's informal brain trust, joined a group of LDP lawmakers in pushing for action on a set of recommendations from a government-commissioned panel.

     The stock market has become a powerful constituency for Abe, and he is clearly mindful of it. He even rang the year-end closing bell at the Tokyo Stock Exchange in December -- something no prime minister had done before.

     But 2014 trading began on a less auspicious note: Stocks logged the first opening-day decline in six years. Nagatacho, Japan's political nerve center, is growing anxious. What is being billed as reforming the GPIF is partly about transforming the fund into a stock market risk taker second only to foreigners.

     Market pundits are dropping the fund's four-letter acronym left and right. Kathy Matsui, chief Japan equity strategist at Goldman Sachs Japan, lists the GPIF among her predictions for notable Japanese-stock buyers this year.

     Much of the attention surrounding the fund relates to the JPX-Nikkei Index 400, a new stock price benchmark whose selection criteria favor high return on equity. Hiromichi Tamura, chief strategist at Nomura Securities, said U.S. institutional money managers peppered him with questions last November on how the fund might incorporate the index into its strategy.

     The GPIF could link part of its passively managed investments to the JPX-Nikkei 400, according to President Takahiro Mitani. Some hope such an endorsement would convince corporate Japan to get serious about improving its uncompetitive ROE, in turn making Japanese equities more attractive to investors.

     The GPIF held some 20 trillion yen in Japanese stocks at the end of September -- nearly 5% of the value of the TSE's first section.

An extra helping of stocks

Conventional wisdom held that the fund would wait until its current medium-term investment plan ends in April 2015 before revising its asset allocation. But the panel advised that its recommendations should be accomplished in a year. Mitani has said the GPIF was open to jumping ahead of schedule, suggesting the overhaul could take place in 2014.

     Many contend that it will happen no sooner than the fall, given this year's unusual circumstances. Two parts of the national pension system -- private-sector employee pensions and mutual aid associations for government workers -- will merge in 2015. Common investment guidelines are to be drawn up this year.

     How might the GPIF's new portfolio look? Goldman Sachs' Masahiro Nishikawa reckons that domestic bonds' share of the total will shrink from 60% to no more than 50%, while the Japanese equity slice will grow from 12% to at least 17%. Nomura Securities figures that an 18% weighting in domestic stocks would work best given the Bank of Japan's 2% inflation target.

     Because Japanese stocks have made such big gains under Abe, the GPIF is seen approaching the top of its target allocation, which allows 6 percentage points on either side of 12%. Raising the base to 17-18% would theoretically lift the upper limit to 23-24%, creating room for additional buying.

     Takatoshi Ito, a prominent University of Tokyo economist who chairs the panel, raised eyebrows last November by suggesting an even bolder mix of domestic assets: 35% bonds and 20% equities. Daiwa Securities estimates the GPIF would need to buy 4.6 trillion yen worth of shares to reach that level. Add in mutual aid associations and other pension plans mirroring the fund's investment strategy and the buying would total 8.7 trillion yen. By comparison, foreign investors bought somewhat more than 15 trillion yen worth on a net basis last year.

     "The impact on Japanese equities would be considerable," said Kenji Shiomura, a Daiwa senior strategist.

     Naoki Kamiyama, chief strategist at Merrill Lynch Japan Securities, foresees the GPIF also branching out into new asset classes, such as real estate.

     But even if the GPIF's stock allocation rises as high as some predict, not all of the increase may translate directly into new buying. With pension contribution inflows declining, the GPIF is expected to sell off assets again in fiscal 2014, to the tune of nearly 6 trillion yen, to maintain payouts. Most of this would be wrung out of bondholdings. The fund's bond weighting could dip below 52% on its own at the end of fiscal 2014, Mitani says. This would necessarily result in a higher weighting of stocks.

     Under the circumstances, "it's hard to imagine significant new inflows of money into stocks" from the GPIF, said Norihiro Fujito at Mitsubishi UFJ Morgan Stanley Securities, expressing a view held by many in the market.

Safety first

The GPIF is likely to earn a 10%-plus return this fiscal year, as it did the year before. That means the rate of decline in its reserves may slow.

     Still, the fund's overseers remain as cautious as ever about change. Many members of a Ministry of Health, Labor and Welfare committee oppose the panel's recommendations.

     "Who will be responsible if risk-taking leads to big losses on the public's pension savings?" a senior official asked. "The recommendations don't provide clear answers when it comes to accountability."

     Some may dismiss such talk as "bureaucrats trying to save their own necks," in the words of one panel member. But the GPIF arguably operates in a different dimension than, say, mutual funds.

     "In managing public pensions, the emphasis is on how well you avoid losing money, not how well you make it," said Osamu Yamaguchi, a former banker now teaching at Yokohama National University.



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