Benchmark Responsible Investment by Pension Funds in the Netherlands 2012

Transcription

1 Benchmark Responsible Investment by Pension Funds in the Netherlands 2012

2 Pieterstraat JT Utrecht T +31 (0) info@vbdo.nl Benchmark Responsible Investment by Pension Funds in the Netherlands 2012 A research paper by VBDO (Dutch Association of Investors for Sustainable Development) VBDO: Rudy Verstappen In cooperation with Profundo: Anniek Herder and Jan Willem van Gelder December 2012 This report has been made possible by Oxfam Novib. The contents, conclusions and recommendations are, however, the sole responsibility of the VBDO. VBDO report by the Dutch Association of Investors for Sustainable Development (Vereniging van Beleggers voor Duurzame Ontwikkeling) Disclaimer VBDO will assume no responsibility or legal liability for incorrect or misleading information provided by the sources used for this report. 2 2 THE DUTCH A SSOCIATION OF INVESTORS FOR SUSTAINABLE DEVELOPMENT

3 Contents Foreword 5 Executive summary 6 Chapter 1 Introduction 8 Chapter 2 Towards responsibly invested pensions The Dutch pension system Three pillars Pension sector regulation Organization of pension funds Investments Solvency II Financial crisis Future of the pension system Motivations for pension funds to invest responsibly Expectations from society Universal ownership Fiduciary duty Risk management Financial performance Responsible investment developments Market volume Instruments Services of third parties Reporting Relevant international standards and initiatives International standards Initiatives 26 Chapter 3 Methodology Research objectives Description of the researched pension funds Research period Research process 30 Division of tasks and responsibilities Scoring model Asset classes Responsible investment strategies 32 3

4 3.6.3 Category 1: Responsible investment policy Category 2: Category 3: Accountability Advisory panel 43 Chapter 4 Results Research group characteristics Description of researched group Response rate Category 1: results Category 2: results Public equity Corporate Bonds Government Bonds Real Estate Alternative investments Category 3: Accountability results Accountability of the responsible investment policy Accountability of the responsible investment implementation 54 Overall results 55.1 Analysis of overall results 55.2 Results per pension fund 57 Chapter 5 Conclusions and recommendations Conclusions Accountability Overall conclusions Per pension fund Recommendations Accountability 64 Appendices Results per pension fund 2. Results per pension fund without asset allocation 3. References 4

5 Foreword This Benchmark Responsible Investment of Dutch Pension Funds is the 7 th annual edition. Started shortly after the television programme Zembla unveiled investments of large pension funds in producers of cluster munitions; the sector has come a long way since then. The concept of fiduciary duty, used in the early days as an excuse not to invest responsibly, as there was thought to be insufficient data on risks and performance, now is seen as to explicitly include taking care of long term trends and take into account ESG criteria. Where in our first benchmark only half of the pension funds had a responsible investment policy, now practically all of the researched pension funds have one. Moreover, this policy now is extended to more and more asset classes. Transparency has increased to a large extent and stakeholders are regularly consulted. I would like to compliment the sector with this progress in the field of responsible and sustainable investment. It makes sense that long-term investors like pension funds are the drivers behind sustainability, as this is based on long-term thinking. And indeed, because of the progress in the pension sector, other parts of the financial sector are encouraged to move as well: asset managers, private equity, real estate investors. Of course the report shows that there always is something to be desired. lags behind policy and transparency. Only 11 pension funds out of 50 report on the majority of their actual investments. And only 1 out of 8 pension fund board members are female - a long way from the EU objective for corporate boards. In general, the perception is that boards of pension funds could be more active in discussing and determining the policy and actions around sustainable and responsible investment. It should be noted that this study shows that the biggest aren t always the best, and that smaller pension funds find interesting solutions producing higher scores. I would like to thank Oxfam Novib, who made this extensive research possible, and Profundo, who helped us with the research. And finally I would like to thank the pension funds and asset managers that carefully complete the questionnaires every year. Without them this research report, with a record response rate of 98%, would not such a success. Giuseppe van der Helm Executive Director VBDO 5

6 Executive summary This is the sixth annual edition of the VBDO Benchmark Responsible Investment by Pension Funds in the Netherlands. This report is published by the Dutch Association of Investors for Sustainable Development (VBDO), in association with research consultancy Profundo, and presents the development of the Dutch pension funds in formulating, implementing and reporting on their responsible investment policy. Last year s report showed that the pension fund sector as a whole received higher scores than in previous reports, and thus concluded that the sector is moving forward. This applied to the formulation, the implementation and reporting on the responsible investment policy. Both corporate and industry-wide pension funds have improved. Researched group Of the 50 researched pension funds, 21 are corporate, 26 are industry-wide and 3 are occupational. The total assets under management (AuM) of all the covered pension funds is billion. It is interesting to note that the participants of pension funds were 66% male and 34% female. When looking at the board of the pension funds, on average 87% were male and 13% were female. Investigated pension funds indicated that 63% of their assets are managed actively and 37% passively. Thirty-three pension funds indicated that they have appointed a fiduciary manager, 12 have not. Forty-one invest using funds, and forty-four pension funds have a segregated account. In total, 48 pension funds responded at one of the feedback opportunities, which corresponds to a response rate of 98%, the highest-ever response rate. Benchmark results The 50 pension funds were scored and ranked based on 29 assessment issues divided into three categories: policy, implementation, and accountability. These assessment issues are largely unchanged from the previous two years to maintain the comparability of the annual reports. The scoring is also dependent on the asset allocation of the pension fund, meaning that pension funds with similar responsible investment policies can have different scores as a result of different asset allocations. This year, the pension funds with the highest scores are the following (ranked from 1 to 10): Pensioenfonds Zorg en Welzijn (PFZW) BPF Landbouw BPF Bouw ABP SNS REAAL Pensioenfonds Stichting Pensioenfonds voor de Architectenbureaus PME Stichting Pensioenfonds Woningcorporaties PMT Pensioenfonds PNO Media The overall results per element show that on average the pension funds are better in formulating a policy and reporting on the policy and the instruments than actually implementing the policy. This is in line with past years. When the pension funds are seen according size, it can be noticed that the larger pension funds score higher on the different elements (policy, implementation and accountability) and on the total score. 6

7 In terms of a responsible investment policy, 49 of 50 pension funds were able to show that they have a responsible investment policy in place. Thirty-nine of the 50 pension funds base this policy on the four themes of the UN Global Compact. In comparison with last year s result this is a positive development on a sector-wide basis. The amount of funds having a responsible investment policy based on the four themes of the UN Global Compact and explaining how (some of the) principles are dealt with in practice has risen, while the lower scores on policy content have declined. Furthermore, this positive development carries on the trend from previous years. Seventy percent of the pension funds have this policy apply to more than 50% of their assets, similar to last year. No significant changes on the communication of pension funds with their participants concerning the formulation and implementation of a responsible investment policy can be identified. Thirty-four pension funds (68%) engage in some form of two-way communication with their participants on the topic of responsible investment. The VBDO tracks the implementation of responsible investment across five asset classes: public equity, corporate bonds, government bonds, real estate and alternative investments. When compared to each other and with previous years, it is clear that the implementation of a responsible investment policy is the highest in public equity and real estate, with government bonds and alternative investments lagging behind. Despite these differences between asset classes, it must be noted that there is an overall increase in implementation across all asset classes. Moreover, in comparison with previous years, a strong increase of implementation in all asset classes can be seen, with especially real estate and governments bonds having a rapid increase over the past years. It is a positive conclusion that the developments noted in 2011 have continued over the past year. Accountability The last component of responsible investing is how the pension funds report on their responsible investment policy and the different implementation instruments. This is of paramount importance, since participants of pension funds and others can only see how responsible the pension fund invests when pension funds are transparent about it. Of the 50 pension funds, 49 (98%) have publicly available information about their responsible investment policy. The information varied from a well-developed policy based on international standards to a brief reference in the annual report of the organization. Eighteen pension funds (36%) of published (some of) their investments, of which 11 (22% of total) published 75%-100% of their investments. This is also comparable to the past year. The level of reporting on the responsible investment implementation instruments is, similar to the past year, less developed than the policy itself. New methodology The current evaluation methodology has been maintained the past three years. The VBDO will be updating the methodology in 2013 to keep up-to-date on current trends in SRI and will do so in close cooperation with the pension fund sector. 7

8 1 Introduction This is the sixth annual edition of the VBDO Benchmark Responsible Investment by Pension Funds in the Netherlands. This report is published by the Dutch Association of Investors for Sustainable Development (VBDO), in association with research consultancy Profundo, and presents the development of the Dutch pension funds in formulating, implementing and reporting on their responsible investment policy. Last year s report showed that the pension fund sector as a whole received higher scores than in previous reports, and thus concluded that the sector is moving forward. This applied to the formulation, the implementation and reporting on the responsible investment policy. Both corporate and industry-wide pension funds have improved. Industry-wide pension funds received a higher overall score than corporate pension funds, a trend that has been identified in all editions of the benchmark. Furthermore, larger pension funds scored better than smaller funds. The top three of the pension funds in last year s edition consisted of Pensioenfonds Zorg en Welzijn, SNS REAAL Pensioenfonds and ABP. This year, the methodology remained largely unchanged to maintain the comparability of the benchmark research. The responsible investment policies of 50 largest Dutch pension funds have been scored and ranked using 29 assessment issues divided into three categories with the following weightings: (3 assessment issues) 25% 50% o Public equity (6 assessment issues) o Corporate bonds (4 assessment issues) o Government bonds (3 assessment issues) o Real estate (3 assessment issues) o Alternative investments (2 assessment issues) Accountability (8 assessment issues) 25% Based on these 29 assessment issues, scores were assigned to the different pension funds and the final scores tabulated. The contents of this research report are as follows: chapter 2 provides an introduction to the Dutch pension sector and states the different developments in this sector throughout the years. Furthermore, it summarizes the developments in the field of responsible investment and describes the relevant initiatives in this field. The subsequent chapter, chapter 3, describes the research objective and the methodology used. This chapter also provides insight into how the information was gathered, and how the scoring model used to assess the pension funds is put together. Chapter 4 details the results of the research process, starting with the research group and response rate. This is followed by the overall results and an analysis of the average scores according to a number of different variables such as size. The results of the three categories (policy, implementation and accountability) are also presented. Finally, a number of concluding remarks and recommendations are made based on the results. A breakdown of the individual scores of the pension funds can be found in the first appendix and the profiles of all 50 pension funds can be found on the VBDO website ( 8

9 2 Towards responsibly invested pensions 2.1 The Dutch pension system Three pillars Pension is the income received by people at an older age, when they are no longer actively working. The Dutch pension system aims to provide everyone with a pension at, or often before, the age of 65. Similar to other countries, the Dutch pension system is essentially supported by three pillars. 1 The first pillar The first pillar consists of the Old Age Pensions Act (AOW), guaranteeing all Dutch citizens - employees, self-employed and not-employed - a basic pension from the age of The purpose of this pillar is to at least provide a basic income for elders, preventing poverty amongst them. The AOW provisions are financed by an apportionment levy to which all Dutch citizens contribute through their tax payments. The second pillar The second pillar is composed by the collective pension schemes which are negotiated by employers and employees in a specific company or economic sector. The purpose of the second pillar, also referred to as supplementary pension as it provides a supplementary income to the first pillar, is to provide retired employees a reasonable income that is related to the income which they enjoyed during their working lives. Pension is built up with a pension fund or pension insurance company to which the employer, employee or both pay premiums. Approximately 95% of all Dutch companies provide pension schemes. The paid premiums are subsequently invested and due pensions are paid out from the return on these investments. The second pillar is obligatory in most sectors in the Netherlands, for reasons of solidarity. In addition, this system prevents pensions from becoming subject to competition on the labour market and it results in relatively simple and transparent wage negotiations. The third pillar The third pillar consists of voluntary pension schemes that are entered into individually with a pension insurance company. The third pillar is meant for individuals running a company, people who cannot lay claim to the second pillar and employees for whom the first two pillars yield insufficient income, for example because of frequent job changes. Individual pension schemes are also referred to as annuity insurance. Here too, the paid premiums accumulate into capital from which the pensions are paid. Whereas the first pillar is financed by the Dutch State, the second pillar is mainly the domain of the pension funds. Private pension insurance companies dominate the third pillar, but also play a role in the second. Pension funds typically are corporative foundations: employers and employees together make up their management. Pension insurance companies on the other hand are private enterprises, often part of large insurance companies. This report deals mainly to the second pillar of the Dutch pension system. In terms of financial scope, this is the largest pillar in which most Dutch employees are involved. Four types of pension providers deal with the pension schemes in the second pillar: 9

10 Industry-wide pension funds manage pension schemes for the employees of one or more industries (education, healthcare, metal industry, etc.). Participation in industry-wide pension funds is usually compulsory. In principle, the pensions of all employees, and sometimes of self-employed persons in those industries, are managed by these pension funds. By 2011, the Netherlands counted 77 industry-wide pension funds, with million members, 7.9 million deferred members and more than 2.3 million pensioners. 3 The Dutch Association of Industry-wide Pension Funds (Vereniging van Bedrijfstakpensioenfondsen, VB) has 70 members, which together represent 75% of all participants in collective pension schemes in the Netherlands. The joint invested capital of the industry-wide pension funds amounted to more than 550 billion. 4 Corporate pension funds manage the pension scheme of one specific company or group of companies. By 2011, the Netherlands counted 324 corporate pension funds. 5 They manage pension schemes for approximately members, more than 1 million deferred members and pensioners. 6 The Association of Corporate Pension Funds (Stichting voor Ondernemingspensioenfondsen, OPF) has approximately 270 members with a joint capital of 170 billion. 7 Occupational pension funds regulate pensions for self-employed persons (doctors, accountants, lawyers, etc.). The Netherlands, in 2011, counted 11 occupational pension funds. 8 They manage pension schemes for 55,569 members, 18,045 deferred members and pensioners. 9 The umbrella organization for these generally small pension funds is the Union for Occupational Pension Funds (Unie van Beroepspensioenfondsen, UvB). The joint invested capital of the occupational pension funds amounts to approximately 20 billion. 10 Private insurance companies in 2011 managed pension contracts for small and mediumsized companies, with a total of approximately 1 million participants and liabilities of 38.4 billion. 11 The number of contracts is increasing, partly because insurance corporations take over the pension schemes of discontinued small company pension funds. 12 All insurance companies are members of the Dutch Association of Insurers (Verbond van Verzekeraars, VvV). In 2011, some 44 life insurance companies were active in the Netherlands, of which a large number also provide pension insurances. 13 Since November 2010, the branch organisations VB, OPF and UvB work closely together in the Pension Federation (Pensioenfederatie). Together the organisations strengthen relationships with stakeholders, improve their advocacy role - especially within the European Union- and expand services to pension funds. Important policy themes for the Pension Federation are amongst others: the (future of the) Dutch pension system, governance, risk and asset management, responsible investment, and the consequences of European regulations Pension sector regulation The most important legislation for the Dutch pension sector is the Pension Act (Pensioenwet or PW), which came into effect in The underlying principles, however, have not changed. The basic assumption is that a pension is a term of employment. Employers and employees, both represented by social partners, therefore remain primarily responsible for the establishment of pension regulations. The new Pension Act equally does not compel employers to offer employees a pension scheme. However, if a pension contract is entered into, the Pension Act then sets certain conditions for its formulation. One of these conditions is that the contract must be placed with a pension fund or insurance company (article 23 of the Pension Act). Furthermore, the Pension Act provides regulations for the way in which the pension fund or insurance company operates

11 The Dutch Central Bank (De Nederlandsche Bank, DNB) monitors pension funds pursuant to the Pensions Act and life insurers pursuant to the Financial Supervision Act (Wet financieel toezicht or Wft). 16 Besides DNB, there s another financial supervisor: the Netherlands Authority for the Financial Markets (AFM). This authority supervises the way financial institutions deal with their customers. 17 The Pension Act strengthens the control of these supervisors in relation to pension fund investment results. These results determine if pension funds can cover their future pension obligations and whether or not participants may rely on their pensions being indexed (increasing with inflation). An additional obligation was given to the pension sector when it was decided by the Dutch Parliament that a national pension register should be created per 2011, providing pension entitled persons with immediate and comprehensive information on the pension claims they have accumulated over the years. 18 For this purpose the Dutch pension funds, pension insurance corporations and the Social Insurance Bank (Sociale Verzekeringsbank, SVB) have established a foundation (Stichting Pensioenregister), which launched the website Mijnpensioenoverzicht.nl in January Another element introduced by the Pension Act is that a certain level of involvement by participants has to be assured by pension funds. Many pension funds now have a participants council, sometimes combined with board participation. These councils mostly assess the cooperation with pension funds boards positively. Although many pension funds meet the requirements with regard to pension fund governance (and participation), especially smaller funds still struggle to meet these requirements Organization of pension funds In 2011, the Netherlands counted 412 pension funds. 21 These are all independent foundations with a board composed of representatives of employers and employees. Being a board member of a pension fund is, however, not a full time occupation. Usually the persons representing the employees are employed by trade unions and the persons representing employers work for a company or a branch organization. The board can hire staff to perform the financial administration and asset management tasks of the pension fund. But most funds do not employ many people as almost everything is outsourced. In 2011, 8% of the pension funds outsourced its administration and 90.8% outsourced its asset management. 22 Although these tasks are outsourced, the larger pension funds do still have some own staff who see to it that policy decisions are implemented by third parties. Outsourcing has become compulsory under the Pension Act. In order to prevent unfair competition, pension funds may no longer execute their own pension schemes. Instead, contracts must be drawn up with executive organizations. Up until 2007, the two largest Dutch pension funds, ABP and PGGM, executed the major part of their activities (pension administration, asset management) themselves. From 2008 on those activities have been outsourced to independent organizations that are, however, fully owned by pension funds. The executive organization of ABP has been named APG (Algemene Pensioen Groep), whereas the PGGM has chosen to give its old name to its executive organization and rename itself into Pensioenfonds Zorg en Welzijn (PFZW). Many other pension funds had already outsourced their pension administrations, including participant contacts. As it is very labour intensive and demands specific competency, outsourcing these activities is financially attractive. The market of pension execution services is dominated by insurance companies and a number of private administration companies. The executive organizations APG and PGGM also offer their services to other pension funds now

12 In addition to their pension administration, Dutch pension funds must now also outsource their asset management activities. Many pension funds already have done so. In 2011, 89.5% of the corporate pension funds, 94.8% of the industry wide pension funds and all occupational pension funds outsource more than 30% of their asset management. 24 Different models are used for outsourcing asset management. The entire management of all assets of a pension fund can be outsourced to one specific asset manager, who controls the entire investment portfolio. Asset management can also be outsourced in stages: first the fiduciary management is outsourced to one party that carries responsibility for the return on investments. The fiduciary managers in turn outsource parts of these investments to other asset managers who are given mandatory powers over a specific investment portfolio (shares, bonds, real estate, etc.), sometimes limited to a geographic region. In this way, an experienced asset manager is allocated to each of the investment categories. Many of these capital executives are from the United States and Great Britain. Fiduciary asset managers are often the same companies to which pension administrations have been outsourced, or their subsidiaries. Fiduciary management, however, can also be outsourced to large, foreign investment banks and asset managers. Finally, a number of variations of outsourcing are also possible. The executive organizations of ABP (as in APG) and PFZW (as in PGGM) use such an intermediary form: they act as investors for the largest part of the pension fund capital and at the same time act as fiduciary asset managers for mandates given to capital executives in specific investment categories. The fact that all Dutch pension funds have outsourced the management of investment share capital to one or more capital executives makes it difficult to ascertain the companies in which they have invested. Equally difficult to ascertain is the influence they exert on the investment policies of these asset managers. A 2010 survey amongst Dutch pension funds revealed that funds interested in the fiduciary route are mostly considering partially mandates and modular offerings and not the full service fiduciary management option. The pension funds believed themselves sufficiently in control when employing a fiduciary manager. 25 In 2011 both Dutch politicians and the AFM criticised the outsourcing by pension funds. Pension funds are expected to cut down costs and offer more transparency about their expenditure. Outsourcing is increasingly seen as obstructing both. The costs of outsourcing are un-proportionally high and it is often not clear what is costing so much. According to a publication of the AFM, pension funds annually lose around 3 billion to hidden investment costs. Moreover, because of a lack of transparency, outsourcing carries more risks than internal management, as asset managers supposedly withhold information from the pension funds. Additionally, information about costs that are known by the pension funds themselves is not communicated correctly to the participants. However, so far the response of (especially small) pension funds has been sceptical. According to them they are not in the position to transfer their asset management to internal managers. To profit from economies of scale it could be well possible that the number of pension funds has to be reduced by mergers. 26 In April 2011 a majority in the Dutch parliament requested the ministers of Social Affairs and Finance to investigate if the pension sector can come up with a proposal to guarantee transparency in the costs of outsourcing. 27 According to the annual survey of the magazine Investments & Pensions Europe, fiduciary management is still a popular choice in the Netherlands. Fiduciary managers in Europe reported 915 billion assets under management in 2012, an increase of 110 billion compared to With 622 billion (72%) the Netherlands has the highest amount of assets under management by a fiduciary manager

13 2.1.4 Investments The total investments of Dutch pension funds amounted to 855 billion at the end of June In order to cover future pension obligations, pension funds invest their participants premiums. They invest in various asset classes in order to spread risks and achieve maximum long-term return on investment, which creates an investment mix that varies per pension fund. Although not always to the same extent, the average investment mix of Dutch pension funds has changed considerably over the last 25 years. The changes are best summarized as follows: 30 The proportion of equity investments has increased dramatically, going from 7% in 1985 to 52% in 2005, mainly because long term equity investments yield higher profits than other investment categories; The proportion of (private) loans has decreased to the favour of shares and bonds, which is the result of the Dutch government since 1993 exclusively using bonds instead of private loans for long term financing. This is attractive for many pension funds, as bonds (and shares) are more liquid than loans. The proportion of mortgage loans has also shrunk as a result of pension funds converting their mortgage portfolio to (more) liquid bonds by means of securitization; The proportion of real estate investments has also decreased, mainly because pension funds choose not to invest in real estate directly, but rather in more liquid shares of major Stock Exchange listed property companies. A considerable geographical shift has taken place in relation to this investment mix. Whereas in 1985 only 8% was invested abroad, in 2005 this percentage had risen to 76% of the portfolio. Figure 2.1 Investment mix development Dutch pension funds Kakes, J. and D. Broeders, De houdbaarheid van het Nederlandse pensioenstelsel Occasional Studies Vol. 4 / Nr. 6, De Nederlandsche Bank, November Figure 2.2, based on recent figures published by De Nederlandsche Bank, shows that the above trends has changed somewhat. 13

14 Figure 2.2 Investment mix of Dutch pension funds Based on: DNB, Supervisory data on pension funds. Table 8.9 Pension assets invested at pension funds risk, De Nederlandsche Bank, 20 September As a response to the financial crisis that started in 2008, which affected share prices strongly, investments in equities decreased in favour of bonds and other fixed income assets. Investments in equities however recovered fast and remained relatively stable since Solvency II An updated set of regulatory requirements for insurance companies and pension funds that operate in the European Union, Solvency II, was introduced in December It intends to make insurance companies and pension funds comparable, transparent, more safe for investors and customers, and provide consumers with equal protection across the EU. Solvency II is supposed to be implemented by Solvency II assigns capital weightings to different asset classes, based on their perceived risks. Various financial institutions criticise the rules after they explored how these would affect their investment strategies. According to the London Evening Standard Solvency II could sound the death knell for investing in equities, it will be bad news for long-dated corporate bonds and it would force insurance companies to commit themselves even more to buying government debt. This is a direct consequence of the capital weighting - or the perceived risk the different asset classes have in the new system. The Chief Investment Officer of APG expects that investors like pension funds will be limited in their possibilities to buy shares. 31 According to the European Federation for Retirement Provision (EFRP), Solvency II is unsuitable as a regulatory regime for pension funds, as pension funds are different from insurers, for which the framework was originally designed. 32 Likewise, other industry bodies have warned that plans by the European Union to introduce Solvency II rules to the pensions industry run the risk of undermining pension provision rather than strengthening it. 33 According to the European Central Bank the suitability of Solvency II for pension funds needs to be considered in a rigorous impact assessment, as some elements might still be incompatible with national pension systems in some countries. 34 As a response to this criticism, the European Insurance and Occupational Pensions Authority (EIOPA) conducted various quantitative impact studies. The latest has been published in March 2011 and concludes that the approach that has been proposed and tested is a workable proposition. According to Michel Barnier, the Commissioner for Internal Market and Services, the criticism against Solvency II has not been confirmed by evidence: The results so far show that the insurance industry is well-positioned to meet the new Solvency criteria

15 2.1.6 Financial crisis After the credit crunch struck in 2008 and the recession that followed thereafter, the total investments of Dutch pension funds decreased from billion at the end of 2007 to billion at the end of This decrease threatened the ability of pension funds to meet their obligations towards their participants. Supported by De Nederlandsche Bank, pension funds did everything possible to recover an acceptable level of financial coverage and, where possible, establish the indexation of pension payments. More than 340 funds had to send plans for recovery to DNB in the beginning of Many pension funds cancelled indexation for 2009 and increased premiums. Some corporate funds had asked the companies they execute the pension scheme for, to grant an extra contribution. 37 In November 2009, the DNB stated that after a turbulent period global financial markets stabilized, but the situation was still fragile. This also applied to pension funds, which were still far back from the levels of before the crisis and early recovery remains uncertain. 38 Total investments of Dutch pension funds increased again during 2009, reaching a level of billion at the end of By the end of 2010 the total investments of Dutch pension funds amounted to billion, higher than before the crisis. In 2011 total investments slightly increased further to billion. 39 But despite this recovery of total investments, the financial problems were not over for the Dutch pension funds. As they had switched a significant part of their investments to bonds. In response to the crisis, the euro system has lowered its money market policy rate since October 2008, from 4.25% to 0% in Low interest rates reduce outgoing interest payments and are often seen as an advantage. But returns on savings and fixed-income investments go down. Especially institutional investors suffer from low interest rates. Besides low earnings on fixedincome, low interest rates push up the market value of their liabilities and hence create lower funding levels. This depends on the level to which the interest rate risk has been hedged on the balance sheet, for example by investing in long-dated bonds or using rate derivatives. 40 During 2009, the funding ratio of most pension funds recovered by the upturn in equity markets and the increased interest rates. However, in 2010 coverage of pension funds again dropped under the minimum funding ratio of 105%, due to the subsequent decline in interest rates. Several pension funds have covered their interest rate risk to a stronger degree, while other funds have become more sensitive to a fall in interest rate. Besides lower interest rates, also higher life expectancy predictions of the Dutch Actuarial Association (Actuarieel Genootschap) influenced the funding ratio of pension funds negatively. A small number of funds seemed unlikely to be capable of achieving recovery on time without implementing cut-backs on pension rights and benefits. 41 Despite the recovery of most pension funds at the end of 2010 to a funding ratio of 112%, the funding ratio of pension funds had fallen to 101% again at the end of August This is related to a simultaneous decline in equity prices, which reduced the value of available assets, while pension funds liabilities increased due to a decline in long-term interest rates. 42 Funding ratios stayed below 100% in 2011, but De Nederlandsche Bank reported rising funding ratios in September 2012, up to 97% from 94% in June The improvement was driven by positive returns on equities in an environment of relatively stable long-term interest rates. There are 231 pension funds with a funding deficit (a funding ratio below 105%) Future of the pension system The financial crises and higher life expectancy predictions give rise to many discussions about the future of the pension system in the Netherlands and abroad. In June 2011, Dutch employers and employee organisations agreed on a new Pension Agreement (Pensioenakkoord) with the Dutch government. They agreed to raise the retirement age to 66 year in 2020 and to 67 in 15

16 2025. Flexibility is an important principle of the agreement. Employees who still wish to stop working at the age of 65 may do so but will get a reduction of 6.5% on the state pension. And working longer will lead to an increase of benefits. Furthermore, from 2013 till 2028 the Old Age Pensions Act (AOW) benefit will be increased every year with a percentage of 0.6%. Premiums will remain stable. Pension funds will get a longer period (maximum 10 years) to deal with their deficits. 44 Reponses to the new agreement have been mixed. The Pension Federation, the overarching pension association, is happy with the agreement and thinks it is a sustainable solution for the future. Some of the big trade unions, among which FNV Bondgenoten, however consider the results of the negotiations insufficient. 45 Despite opposition by its two largest member unions, FNV Bondgenoten and AbvaKabo, the trade union federation FNV in September 2011 decided with a small majority to support the Pension Agreement. But to reduce the government budget deficit in a faster pace, the newly installed government Rutte-Asscher (October 2012) agreed to raise the AOW-age even faster. The AOW-age will be raised to 66 year in 2018 and to 67 in In a comparable development, the European Commission launched a public debate in July 2010 on how to ensure adequate, sustainable and safe pensions and how the EU can best support the national efforts. The consultation report, a Green Paper, first identifies three key challenges: demographic aging, changes in pension systems and the impact of the financial and economic crisis. It then reviews the European pension framework on a wide range of issues, such as: balance between work and retirement and facilitating a longer active life, the mobility of pensions across EU, and the future solvency regime for pension funds. The paper ends with the question whether the policy coordination framework at EU level should be strengthened and other questions for consultation of the public. 47 The open consultation which was launched after publication of the Green Paper was very successful and received almost 1,700 responses. In March 2011 the European Commission published a summary of the consultation responses. 48 The Dutch government has welcomed the Green Paper as an important contribution to the public debate on the future of pension systems. Developments like an ageing population, a shorter working life and longer life expectancy affect pensions and public financing, and the financing of state pensions. For the Dutch government essential points of a sustainable and affordable pension system are a good mix between the three pillars, the benefits of a solidary and collective pension and the possibility of mandatory participation. At the same time the government thinks that reforms of the pension system cannot assure that a pension is fully guaranteed because much higher capital requirements would be needed. Pensions have to be flexible and move along with developments on financial markets and changes in life expectancy, leading to less guarantees and more flexibility in risk sharing. The European regulatory framework should support these principles Motivations for pension funds to invest responsibly Expectations from society Public attention for responsible investment by institutional investors (pension funds, insurance companies and fund managers) is increasing globally since the turn of the century. In the Netherlands, most attention was initially focussed on corporate governance issues instead of social and environmental issues, as revealed by a 2006 VBDO report into pension fund annual reporting. 50 But gradually attention for social and environmental issues increased. This can be derived from publications such as: 16

17 Toekomstagenda Milieu (Environmental Future Plan), April 2006; 51 De Kracht van Pensioenfondsen (The Strength of Pension Funds), April 2007; 52 Zembla documentary Het Clusterbomgevoel (The Cluster Bomb Sensation), March 2007; Maatschappelijke belangenafweging en transparantie in het beleggingsproces (Societal interests and transparency in the investment process), April 2007; 53 De gearriveerde Toekomst (The Future has arrived), November to be reviewed in 2012 by the Pensioenfederatie. 54 In 2008, studies by sociologist Derk Erbé indicated that participants of pension funds are willing to accept a higher premium if fewer investment risks are taken and if socially responsible invested. Moreover, participants would like to exercise more influence on the investment policy to ensure that pension funds take account of their moral interests, in particular reflected in responsible investment. 55 A Dutch pension savers survey in May 2012 amongst 518 people found that 70% of the savers wanted their retirement assets invested in a socially responsible manner, while only 43% said they wanted the highest possible returns for their assets. The survey was carried out by independent Dutch polling group Motivaction on behalf of Natuur & Milieu. 56 According to Eurosif, the European SRI market s growth in 2011 is still driven by external pressure from NGOs and media, but most of all by an increasing demand from institutional investors and legislation. 57 Politicians also show their interest in responsible investment. In December 2009, Members of Parliament Kalma and Linhard have asked questions about the results of VBDO s Benchmark Responsible Investment by Dutch Pension Funds 2009, amongst others about the disappointing performance of pension funds corporate social responsibility. 58 On the same day, the pension umbrella organisations jointly sent the results of an inventory amongst 90 pension funds about responsible investment to the Dutch Minister of Social Affairs and Employment. This research concluded that pension funds have worked hard to develop policies and instruments. About 73% of the pension funds said to have developed policies for responsible investment, instead of 33% compared to As a result, Secretary of State mr. Heemskerk, on behalf of the government, responded by using the research of the pension fund umbrella organisations as well as the VBDO Benchmark to conclude that pension funds have shown progress in the past years. 60 In recent years, various development organisations and NGO s have reported about the possible role of pension fund investments on speculation in food and commodity derivatives markets and increasing food prices. 61 The Dutch parliament also discussed the role of the financial sector, and more specifically of pension funds, in food speculation via index funds and over-thecounter (OTC) derivatives. Secretary of State mr. Bleker promised to gain more insight into the investment behaviour of pension funds regarding food, commodities and land. 62 LEI, commissioned by Bleker, concluded that there is no consistent evidence in the academic literature that the large inflow of speculative capital has led to higher prices or more volatility on the mid to long term. It might lead to very small and short-term volatility but this will not have much implication for companies and producers, although it might have a distortive effect on financial markets themselves. Interviewed pension funds trade in commodity futures contract and this constitutes around 0.19% to 4% of their investment portfolio. Most funds believe that increasing food prices are not caused by the trade on futures markets for commodities

18 2.2.2 Universal ownership The examples in the previous paragraph make clear that (public) attention for the role of institutional investors in society is increasing and that society expects social and environmental issues to be part of their responsible investment practices. Institutional investors should use their position as capital providers to deny notorious polluters and human rights offenders access to capital, stimulate the large majority of companies to invest in sustainable development and production methods and grant smaller, truly innovative companies easier access to capital. This expectation can be traced back to the role of pension funds as universal owners. Such investors invest in a broad cross-section of the economy, often holding a portfolio that is a representative sample of the total universe of available investment options and, as a consequence, own a stake in the entire economy. As shareholders, universal owners are able to influence thousands of companies through participation at annual meetings and by engaging. And they have two other particular characteristics: very long time horizons and a large number of beneficiaries. 64 Because universal owners have a clear financial interest in the enduring health of capital markets and the economy, these markets and companies listed thereof will increasingly be shaped by their long term interests, that are increasingly aligned by the interests of their beneficiaries and of the general public. This makes institutional investors an important driver of corporate social responsibility Fiduciary duty Many in the pension and insurance sector for too long took the viewpoint that a socially responsible investment policy would be incompatible with the sector s primary task, meaning the guarantee of a stable and inflation-proof pension or life insurance for its participants or premium-payers. This so-called fiduciary responsibility was supposed to be at odds with any socially responsible investment policy, which was believed to yield a lower return on investment. This argumentation can be disputed for a number of reasons. In October 2005, one of the largest law firms in the world, Freshfields Bruckhaus Deringer, compiled a report for the UNEP Finance Initiative (UNEP FI). It demonstrated that different jurisdictions have different interpretations of the fiduciary responsibility of pension funds. This responsibility, however, does not force pension funds to merely consider financial criteria: integrating ESG considerations into an investment analysis so as to more reliably predict financial performance is clearly permissible and is arguably required in all jurisdictions. 66 The same applies to the Dutch Pensioenwet (Pension Act), although it does not specifically mention the subject of responsible investment. Article 135 of the Pension Act does demand from pension funds that they follow an investment policy that is in accordance with the prudent person principle. The prudent person principle implies that pension funds are to invest their capital with due regard to the interests of entitled and pensionable persons. No pension fund may pursue interests that are not related to the pension rights and claims of participants. This restriction does not mean, however, that pension funds may not consider non-financial issues. They may do so, as long as non-financial interests do not dominate to the extent that the fund s investment policy no longer leads to an acceptable risk-profit profile. 67 In July 2009 the UNEP FI s Asset Management Working Group (AMWG) published a follow-up report to the 2005 Freshfields report. This report, often called Fiduciary II, articulates the evolving nature of fiduciary duties and ESG issues. According to the legal advice of, amongst others, Paul Watchman, it is now broadly recognised that pension funds have the duty to have regard for ESG considerations. Merely, they have an obligation to state what the fund s guidelines are on responsible investment and to what extent social, environment or ethical considerations are taken into account

19 Likewise, investment management agreements should include language in order to clarify the expectations of the parties (i.e. institutional investors and asset managers) and to make clear that ESG is regarded as a mainstream consideration. Fiduciary II also highlights that institutional investment consultants and asset managers have a professional duty of care to proactively raise ESG considerations with their clients. Failure to do so may have serious consequences because there is a very real risk that they will be sued for negligence. To this extent Fiduciary II shows how a pension fund can operationalize ESG integration in investment mandates. 69 In March 2011, the FairPensions campaign in the United Kingdom released a report with its vision on fiduciary duties of investors, discussing its implications in todays changing pension and investment landscape. One of the questions was whether fiduciary obligation presents a barrier to the consideration of social environmental and ethical issues - a potential other best interest of beneficiaries besides securing financial return. Because the legal position of fiduciary obligation is murky, partly due to lack of authority, statutory clarification may be needed to free trustees from perceived restrictions on their exercise of judgement. Moreover, the increasing acceptance that serving the best interest of beneficiaries requires consideration of ESG issues is not fully reflected in mainstream investment practice. FairPensions report suggests that this might be connected to a perception of ESG as client-driven ethical preference instead of an integral part of financial analysis. 70 On the other hand, pension fund members that provide the capital to be invested should be given more of say in the management of their money. Furthermore, it appears that the actors exercising fiduciary responsibilities are no longer those making many of the key decisions affecting beneficiaries, which results in the undermining of the effectiveness of fiduciary accountability. Based on these and other issues, FairPensions pleads for a fundamental review of the fiduciary obligation. Its goals should be to ensure the legal framework is serving its purpose: to protect us all from irresponsible, short-sighted or self-serving behaviour by those on whom we depend to act on our behalf. Such a review would not only encourage a responsible long-term approach to serving beneficiaries interests but would also contribute to great policy challenges, such as providing for an ageing society and ensuring that financial systems acts on behalf of the people whose money is at stake. 71 A survey of Novethic demonstrates that the majority of European institutional investors do not believe that the integration of extra-financial criteria is in contradiction with fiduciary responsibility Risk management Besides a professional duty to invest responsible, the financial sector also considers responsible investment activities as a matter of risk management which may eventually even yield higher returns. In January 2010, the Dutch Committee on Investment and Risk Management (also referred to as Committee Frijns) recommended that pension funds should include objectives in the field of sustainable development and corporate social responsibility in their risk and investment policies. Such recommendations are increasingly being put into practice, with more and more investors that want companies to include information about their impact on the environment in their annual reports, to help judge potential risks. 73 While investors have long acquaintance with the financial materiality of environmental and social disasters, many still need to be convinced of the materiality of ESG issues and their link to financial value. In 2006, the UNEP FI concluded that there is robust evidence that ESG issues affect shareholder value in the short and long term, and the impact on share price can be valued and quantified, and key material ESG issues become apparent but their importance varies between sectors

20 A study of Risklab focused on the connection of ESG to strategic asset allocation and the portfolio context. This had been missing in earlier research on ESG risk, while strategic asset allocation could be the main factor driving long-term portfolio returns, says Risklab. Its study, published in March 2010, pointed out that the integration of ESG factors into portfolio construction could significantly reduce long-term investment risk and potentially boost returns because of the high probability that companies that do not manage ESG issues will be more volatile. The study involved building a quantitative model of ESG risk factors in a portfolio to determine their influence on equity risk over a 20-year horizon. According to Risklab, investors should strive to optimize their global equity investments and minimize exposure to ESG risks. 75 The Penrose Financial Survey 2010, about the future of the investment industry in the United Kingdom, asked 100 organizations (60% asset managers, 14.2% pension funds, 16.0% consultants/advisory and 9.4% other) about their reasons for including environmental factors in their investment strategy. The results showed that a significant part of the respondents sees environmental factors both as a risk and an opportunity. The major part (43.6%) of the respondents answered that Environmental factors pose a significant risk to investment portfolios, so these non-financial factors must be taken into consideration and 23.6% thought that it is a growth sector with potential for outperformance. 76 In 2011, Trucost calculated the cost of global environmental damage and examined the importance of the matter for capital markets, companies and institutional investors. Therefore it assessed the financial implications of unsustainable natural resource use and pollution by business. According to their report, annual environmental costs from global human activity amounted to US$ 6.6 trillion in 2008, equivalent to 11% of GDP and are increasing. Of these costs the top 3000 public companies cause over US$ 2.15 trillion. Such externalities can reduce returns to investors. 77 The consultancy firm Mercer in February 2011 reported on a project on the investment implications of climate change impact on economies and financial markets at total-portfolio level. This is especially important for strategic asset allocation because traditional approaches to modelling, mostly based on historical quantitative analysis, fail to take account of climate change risk. The report models climate change risks using the TIP-framework (Technoloy, Impact, ), that suggests climate policy could contribute 10% to overall portfolio risk. To manage this and other risks, investors need to think about diversification across asset classes. 78 Many respondents to Eurosif s SRI Study 2010 said the financial crisis had made them more aware of the need to integrate ESG risks into their investment decisions. 79 A joint report by the UNEP Finance Initiative, the International Institute for Sustainable Development, and the Blended Capital Group published in June 2012, looks for the link between financial stability and systemic risk. It says that post-financial crisis efforts to shield the economy from volatility must be extended to include emerging sources of instability in the environmental, social, and governance realms. Long-term risks such as climate change, resource depletion and social upheaval are seldom identified and assessed by financial analysts, while understanding these threats will inform the choices we make to benefit from the opportunities in the future Financial performance According to KPMG, Dutch pension funds should pay much more attention to responsible investment and ESG integration. Because of the major financial challenges that many pension funds are facing, ESG-factors receive less attention in the investment process. The annual KPMG survey among 100 corporate pension funds shows that only 28% of the respondents plans to improve responsible investment strategies in the next three years. This also means that pension funds are less able to respond effectively to the opportunities and risks of factors such as human rights, the environment and climate change, while these factors are believed to impact the financial performance of their investments