Chile’s private pension system has made the country a model of retirement reform for dozens of emerging-markets countries. It’s also made Chile a magnet for international asset managers.
More than 50 foreign investment managers have established a presence in the country, largely to service Chile’s private sector pension funds, called administradoras de fondos de pensiones (AFPs). The attraction is clear. With $162 billion in assets, Chile’s pension system isn’t the biggest in Latin America, but it is far and away the most liberal and adventurous. (The country’s mutual funds manage an additional $39.4 billion.)
Local regulations allow AFPs to invest as much as 80 percent of their assets overseas; the actual level is about 40 percent, or $68 billion. By comparison, Brazil has a larger pension fund industry, with some $289 billion in assets, but it’s almost entirely a domestic show. Funds can invest as much as 10 percent of their assets abroad, but in practice they invest only 1 percent offshore, according to asset manager Investec.
Chile stands out even in comparison with some developed markets. Take Spain: The country’s economy is nearly five times larger than Chile’s, but the top 24 asset managers that voluntarily report figures to Spanish fund management association Inverco have a total international allocation of €59 billion ($80 billion), only modestly larger than Chile’s.
Lately, the AFPs have been ramping up their international exposure. Foreign allocations rose 17 percent in 2013 and grew by 40 percent over the past two years, according to Deutsche Asset Management.
The biggest beneficiary of this diversification: iShares. The exchange-traded-fund arm of BlackRock ran about $8.3 billion of AFP money, or 17 percent of the sector’s international allocation, at the end of last year, according to estimates by Investec. Vanguard Group ran a close second with 16 percent, followed by Aberdeen Asset Management (11 percent), Franklin Templeton Investments (7 percent) and Schroders (5 percent).
These houses have fared well because AFPs prefer to get their international exposure through ETFs and mutual funds rather than awarding segregated mandates.
Chilean pension funds have also been avid investors in emerging markets. About 52 percent of AFPs’ international equity investments were allocated to emerging markets, mostly in Asia, according to Investec. On the fixed-income side, some 56 percent of the funds’ international allocations were devoted to high-yield bonds and 33 percent to emerging-markets bonds.
The AFP market is not for start-ups. By law, foreign managers must have more than $10 billion in assets under management to do business with a Chilean pension, and the individual fund in which an investment is placed must be larger than $100 million. In practice, only very large asset managers can compete effectively, says Richard Garland, head of the Americas and Japan client group at Investec, which manages $2.1 billion of Chilean assets.
“AFPs manage a lot of money, so they will not invest in a foreign fund unless it is at least $500 million, perhaps $1 billion,” Garland says. “The advantage is, if a foreign manager secures a contract in this market, it wins big.”
Many foreign houses, including Aberdeen, Fidelity Investments, Investec, Pacific Investment Management Co., UBS and Vanguard, use local fund management firms or advisers to distribute their funds to AFPs. Investec relies on Compass Group, a Latin American investment adviser. Garland says AFPs prefer to work through an intermediary that can filter out the best international funds. But Pedro Dañobeitia, head of the global client group for Latin America at Deutsche Asset Management, disagrees, contending that it’s a competitive advantage to work directly with AFPs. “It’s much better than a fly-in-fly-out relationship,” he says. “AFP managers are sophisticated and highly demanding. They deserve a local presence.”
Will the introduction of a new, state-run AFP, as proposed by President Michelle Bachelet, put the brakes on the sector’s international diversification?
Eugenio Rivera, economics program director at Fundación Chile 21, a left-leaning think tank close to the government, believes the new fund should invest mainly in domestic assets, particularly those related to small and medium-size enterprises.
“The state AFP needs to explore the idea of creating more instruments to support SMEs,” Rivera says. Small companies pay interest rates on the order of 20 percent on loans, he estimates. A state-run AFP could lend to SMEs at 10 percent, providing a good deal for both sides, he contends: “This would be a big help to these firms and represent a significant increase in returns for the pension funds.”
Some industry executives dismiss the idea that a state AFP should have a separate investment remit. Pension funds have a fiduciary duty to their clients and cannot invest in high-risk assets, says Jaime de la Barra, a partner at Compass Group. Current regulations prohibit AFPs from investing in any assets below investment grade, he notes.
“I cannot see how you can have different rules for the state-run AFP and for the rest of the AFPs,” says de la Barra. “That would just destroy the whole system.”
See also “Chile’s Bachelet Pushes Pension Reform, Threatening Private Funds”
