Pension investors have a lot to think about amidst the coronavirus crisis. How long will it last and what sort of impact will it have? When is it advisable to reduce and when to increase risk? When will the markets and the economy recover? Often these reflections and views concern future movements in prices in the investment market. Typically, they relate to the sale and purchase of investment instruments to and from other investors. Investment activities may also have a positive side-effect, if they involve a financing component. In a crisis, such a side effect may play an important role.
"Investment activities may also have a positive side-effect, if they involve a financing component."
Aside from normal market evaluation and investment activities, an institutional investor also contributes to financing business activities in several ways. In crisis conditions, it is this financing and investment component which makes an investor’s and society’s interests intersect in highly concrete terms.
In this blog, I will use VER’s investment activities as an example. Recently, I have heard a lot of comments saying that a pension investor should not actively think about corporate financing as well as comments saying that pension investors should intervene much more effectively to help companies facing a grim crisis. As we see, the views differ considerably. If it were up to VER, the golden middle works best.
Several countries have adopted measures to bolster the market for short-term corporate financing. This so-called commercial paper market consists of less-than-12-month debt instruments issued by relatively large corporations. Many central banks have entered this market, either on their own or together with governments. Why is that? The reason is that it is easy for investors to exit these markets when a crisis looms, and when this happens, businesses are suddenly faced with a dysfunctional market. While no company relies solely on this type of extremely short-term financing, it does offer a bridge over troubled times. Companies can use commercial papers to pay bills, repay maturing loans or reinforce their cash position for a few months.
"It is easy for investors to exit the commercial paper markets when a crisis looms, and when this happens, businesses are suddenly faced with a dysfunctional market."
VER holds commercial papers in its EUR 20 billion investment portfolio. They help diversify the money market portfolio which includes short-term sovereign debt instruments, deposits or money market funds. VER’s money market portfolio is worth about EUR 1.5 billion.
On Monday 16 March, the Finnish government announced a wide range of measures designed to ward off the ill-effects of the coronavirus crisis on the economy. One such measure was the call to increase VER’s investments in commercial papers up to EUR 1 billion. The investments will be made as part of VER’s regular operations. The exact timing and amount of these investments will be determined according to market conditions and expected returns. The objective is to diversify the investments by spreading them between issuers and timing the purchases over a longer period of time. In other words, the investments are to be made over several weeks.
"The commercial paper investments will be made as part of VER’s regular operations."
VER will focus on the commercial papers of companies with a low credit risk, while the expected returns on the investments normally range from 0.2% to 0.8%. The expected return has increased slightly due to the coronavirus and will naturally fluctuate over the next few weeks once we see what course the present crisis will take. Hence, the expected return is slightly higher than return on the rest of the instruments in the money market portfolio.
Since the latter half of March, VER has been increasing its involvement in the commercial paper market to a total of EUR 300 million.
A similar situation with a dysfunctional commercial paper market was encountered in the aftermath of the financial crisis towards the end of 2008. At that time, the Ministry of Finance announced that VER may invest a maximum of EUR 500 million in this market. The investments were made as part of VER’s regular operations. Unlike many other institutional investors and companies, VER remained active in this market throughout the months of crisis. Subsequently, the markets were restored to normal when the stock markets and the economy as a whole gradually recovered.
"Unlike many other institutional investors and companies, VER remained active in this market throughout the months of crisis."
If the coronavirus crisis follows the familiar pattern of earlier standstills, it is safe to say that institutional investors participate in financing companies and the public sector in several ways. Hence, they are contributing to the efforts to alleviate the ill-effects.
After this market disruption, companies are expected to issue corporate bond loans. Some old debts will mature and some projects will require funding. Companies have access to long-term financing from banks in the form of bank loans and from investors in the form of bonds. Pension investors represent a reasonably large group of investors in the corporate bond market.
Public spending increases in a crisis. Several countries have announced substantial support packages for citizens and businesses. Somehow, these expenditures need to be financed. It is done by issuing sovereign debt instruments which are bought by institutional investors.
If the crisis is aggravated further, we may expect a number of companies to run out of capital. If so, an efficient way of reinforcing balance sheets is to issue new shares. Thus, the principal shareholders and institutional investors make it possible for healthy companies to continue doing business.
Pension investors also invest in real estate properties and infrastructure. To the extent that these projects receive a cash injection to finance investments, the investors support economic activity. Similarly, private equity and private credit investments through funds may offer opportunities in which access to corporate financing and sound investment activity meet.
"A pension investor serves society best by taking good care of its investments in the long term."
A pension investor serves society best by taking good care of its investments in the long term. Sound long-term return is the key. A crisis also creates new opportunities. Institutional investors’ involvement in financing, by providing funding for companies and the public sector in many countries, not only generates a return but also gives added value to society. This is the positive side effect of investment activities and its importance is only highlighted in a time of crisis.
The writer is VER's CEO Timo Löyttyniemi.
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