After intervention by the Ombudsman, The Guardians of the Super Fund have finally released a full, uncensored copy of their advice to Bill English last year. It reveals a strong fight against the government's 40% local investment target and concerns that the Fund would simply overwhelm the market
The Guardians of the New Zealand Superannnuation Fund are worried about getting too big for the local market, according to information released under the Official Information Act.
The Guardians' concerns that the fund would distort local markets and prices and that it would ultimately outgrow New Zealand were revealed following a complaint to the Ombudsman by Pundit. In censored sections of the paper prepared for new finance minister Bill English in December last year, the Guardians insisted it was already exploiting its advantages "to the Fund's best advantage" and expressed concerns that such a heavy investment in New Zealand would game the market.
If National insisted on enforcing its 40 percent target and that target was perceived as non-commercial, the Fund would be in "a weaker position" and would be "a price taker".
You may remember that I posted on this back in April, when I revealed that the guardians were wary of the government's plan to require the fund to invest 40 percent of its money in New Zealand. In their confidential paper for English, the Guardians gave what the Herald later called an "icy" response to National's election promise that it would "direct" the Fund to invest at least 40 percent of its money in New Zealand. (NZPA amongst others also wrote up the story, but kindly removed any reference to Pundit. Thanks guys, real classy).
The Guardians wrote that there were "practical limits" to its ability to invest more domestically, explaining:
"These include the investment opportunities, the depth of markets, impact on market pricing, and asset and country concentration risks that must be managed or compensated for."
At the time I noted that the good people at the Fund had blacked out nearly a third of the document, citing commercial sensitivity and the need to give the minister free and frank advice without, you know, the people who's money they're investing knowing what's going on.
I complained to the Chief Ombudsman about this censorship and, despite some delays, the fund has finally come clean. In a letter to me signed by Fund CEO Adrian Orr, it says that Beverley Wakem had been in touch. While the Ombudsman's office doesn't release its correspondence with government agencies, I can only presume she argued my case because Orr has released the full text of the paper. He notes:
"...the paper was written in response to the outline of the Government's New Zealand investment policy. Since then we have received the actual New Zealand investment directive from the Minister of Finance."
Given that, he concludes, their reasons for withholding the passages are "no longer material".
Essentially, the Guardians won their fight (that is, assuming National were ever serious about trying to enforce a 40 percent minimum). In the Budget, amidst the fuss about tax and the cutting of contributions to the Fund, Bill English quietly announced that while it still wanted the Fund to target 40 percent investment, it was no longer planning to "direct" it. It was a clear backdown from its election manifesto. The NBR reported it this way:
The government has given a directive to the New Zealand Superannuation Fund on its 40% home bias policy, but it is framed as an expectation rather than an attempt to enforce such a limit.
So it was the sort of directive you make when you're not making a directive. The Fund's clear to invest as it sees fit, as it had always made clear that it would use its might to boost the New Zealand economy when it saw fit. What this paper told the government was that the local economy – for now – simply doesn't have the depth to carry a fund of its size and ambition.
The censored sections of the report reveal concern amongst the Guardians that such a significant growth in local investment (over $20 billion in less than a decade) could swamp local markets. Referring to listed equities, they said,
"Already we have had to adjust the way we deploy cash to the NZ equity market to reduce the extent to which we push up prices when we buy. If we did not do this we estimate that we would temporarily push up prices when we bought equities by at least 1%...
Unless this market grows substantially, it will become increasingly difficult to maintain our current percentage exposure without impacting market liquidity and price. To maintain the current exposure the market must grow at the same rate as the Fund as a whole, ie by just under 15% per annum. Rather than growing, the market capitalisation of the NZX 50 has actually shrunk since the Fund started investing at the beginning of October 2003."
In short, the Fund feared it would simply overwhelm the New Zealand stock market and like some great, friendly giant, would start crashing into things (such as other investors) and accidentally treading companies under foot.
Private equities presented an even bigger problem, the Guardians continued. Frankly, "institutional quality offerings are few and far between" and "the pool of local managers with the necessary institutional qualities is limited". Same with commercial property – "there are few institutional quality vehicles". The local credit market they described as "particularly illiquid, relatively undiversified and poorly priced compared to comparable credit opportunities globally".
All in all it paints a less-than appealing picture of the New Zealand investment market for large investors. The "lion's share" of its local investment would have to be in infrastructure, and as I wrote in April, it was keen to explore that option more.
As a final slap to National's intention of "directing" it to aim for 40 percent, the Guardians said a target would force them into "a weaker position" by limiting their ability to walk away from investments. And they added a final, perceptive political observation, saying that when it came time for the Fund to sell its investments to pay for our superannuation, there could be a political backlash if it was overly invested in popular domestic infrastructure. They said, "Future Governments might also be faced with public resistance to the sale of local assets". A good point.
What of the Guardians decision to censor this important advice? The most troubling part for me is that they removed a line that qualified, and indeed altered the meaning of, a box they left in their release. The box listed private equity at 0.4 percent of the Fund's assets, property at 2.7 percent and timber at 7.4 percent. The censored line read:
In the case of private equity, property and timber the exposures are likely to be overstated somewhat as they are based on most recent appraised values, which do not relfect the recent falls in global asset prices.
That's pretty crucial information to have when you're reading the box; it changes the meaning of those figures. The Fund's basically saying that as a result of the recession those figures are wrong ("overstated"). I'm not impressed they were happy to release false information like that and have said as much to the Ombudsman's office.
Politically, we're left to question the sincerity of National's campaign promise; a promise that as John Armstrong wrote, was used to outflank Labour, show it was doing something about the recession and win over some New Zealand First supporters even as it was ruling out a coalition deal with the party.
Few would argue with the sentiment of increasing the capital available to New Zealand businesses. But was 40 percent target ever anything other than a vote-catcher, to be promised in 2008 and ignored come 2009?
Given Trader John's professional expertise and his close friendship with Mark Weldon at NZX, you can assume that he was aware that the New Zealand market lacked the depth to absorb such a promise. Can't we?
UPDATE FROM GUARDIANS:
The Guardian's comm.s department has responded to my post, saying:
"...our decision to release to you a full copy of the document was based only in part on our consideration of the Ombudsmen’s provisional findings on your complaint."
Neither they nor the Ombudsman's office itself will discuss what Ms Wakem said to the Guardians nor "the stage reached in her investigation". But they do say that Ms Wakem was still open to the possibility that grounds to suppress still existed, yet they decided to release the information in full anyway. Given that the Ombudsman's communication with the Guardians is not public, I can only take them at their word and thank them for their openness. My belief remains that they should have been open from the start. This information is goes a long way to helping the public understand the "practical limits" the Fund faces in managing this country's largest investment of public money.
The Guardians go on to challenge my claim that by withholding a line they undermined the accuracy of the information in the accompanying box. I stand by my concern, but in the interests of fairness this is their view without any reply from me:
We reject any suggestion that the information in the chart was ‘wrong’ or ‘false’. The information is accurate relative to the most recent published valuations available to us at the time for the specified asset classes. The comment about overstatement simply reflects that valuations for unlisted, private markets assets which were assessed at a point in time (six monthly or annually) cannot and do not reflect market fluctuations until they are again ‘marked to market’ (and then only briefly, for the same reason).
Certainly Ms Wakem thought so. We withheld the sentence about overstatement on the grounds of free and frank advice to a Minister of the Crown, as set out in our original response to you. On reflection we agreed with Ms Wakem’s view that the passage did not actually qualify as opinion. Rather it was simply a description of an ‘unremarkable and explicable phenomenon’.