​Swedish Government Expands AP Funds Investment Freedom

Sweden’s finance ministry has published draft legislation giving the country’s main four pension buffer funds greater abilities to make direct investments and invest in illiquid credit.

The proposed changes and clarifications address five issues raised by the funds and discussed in the country’s cross-party pensions group, which build on the new investment rules which came into effect at the beginning of this year.

In a memorandum, the government proposed adding the opportunity for the funds to invest in illiquid credit, but only via funds.

In addition, the proposal – which is now out for consultation until 24 June – would extend the freedom for the funds to make loans to real estate companies and “riskkapitalföretag” (holding companies for unlisted investments) in which they hold shares.

According to the wording of the proposed new mandate, the AP funds would be free to lend to such firms. Currently they are only able to do so in the case of real estate companies if the borrower is majority-owned by the four buffer funds.

The memorandum also contained a draft change to clarify that the funds may not be operationally responsible for such holding companies.

The ministry said: “It is proposed that it be made clear that the… AP funds may make joint investments in unlisted companies through holding companies for unlisted investments and that the AP funds may not assume the operational corporate governance responsibility in these holding companies for unlisted investments.”

The proposal confirmed that AP1-4 could hold shares in unlisted companies via holding companies, but each fund should own no more than 30% of the voting capital.

In its introduction to the memorandum, the ministry said the purpose of the proposals was to increase cost efficiency, return opportunities, and long-term perspectives regarding illiquid assets, but also to provide the four funds with similar conditions to those of comparable institutional investors.

The draft legislation is planned to come into force in March 2020.

Holdings restrictions

The proposed rules would allow the funds to hold more than 10% of a real estate or holding companies for unlisted investments, if the entities were about to be listed.

For holding companies, any holding that exceeded the limit would have to be sold “as soon as it is appropriate with regard to market conditions”, and “at the latest when it can be done without loss to the fund”, the draft law stated.

However, in the case of real estate companies, the holding could exceed the 10% limit on listing and be retained, but could not be added to.

The ministry said that, in order for the four AP funds to undertake direct lending, they would need to build up large internal credit review operations.

“The provision that bonds and other debt instruments should be issued for public sale should therefore remain,” it said, but added that the buffer funds could make such investments via funds, which would increase return and diversification opportunities.

Direct infrastructure not ‘justifiable’

However, the finance ministry stated that the AP funds should not be permitted to make direct investments in infrastructure.

It said it was possible under current rules for the funds to make such investments via funds, but they had not yet done so to any great extent.

“It can be confirmed that investors usually make co-investments for a long time before they even start making direct investments, but it is far from all investors who make direct investments,” the ministry said.

Being a direct owner required a high level of skill, and one of the biggest challenges was to recruit and retain qualified staff, it said.

“From a cost-efficiency perspective for the pension system, it is not justifiable that the four AP funds build up large organisations in order to be able to make direct investments in such infrastructure companies,” it said. 

Last month, AP1, AP2 and AP4 joined forces to launch an infrastructure investment firm, Polhem Infra.

A month ago, consultancy group McKinsey recommended more “modernisation” of the investment rules for AP1-4, arguing in favour of allowing direct and co-investments. However, the firm emphasised that attention should be paid to the funds’ expertise.

The AP funds have been lobbying for the ability to:

• make direct investments in unlisted infrastructure businesses;
• make co-investments in unlisted shares; investments in illiquid credit;
• retain holdings in excess of 10% of voting capital on listing of a company in which the funds had invested beforehand; and
• make loans to businesses in which the funds have invested.

IPE contacted AP1, AP2, AP3 and AP4 for comment.