By Hamlin Lovell, NordicInvestor 

This article forms part of our upcoming report on alternative credit in the Nordics

NordicInvestor interviewed Eveliina Nyandoto, Portfolio Manager at the Church Pension Fund in Helsinki, Finland who has been with the fund for over eight years, having previously worked for Bank of Finland. She explained the financial and non-financial goals of the alternative and private credit allocations.

Church of Finland pension fund was worth EUR 1.778 billion as of June 2022. It had 21.5% of assets in traditional fixed income, which is split between seven sectors: money market; government bonds; investment grade; high yield; convertible bonds; emerging market debt and short duration instruments.

The pension fund also has a relatively large allocation of 7.5% of assets in private debt.

“The three key reasons for investing in alternative and private debt are yield pickup; diversification; and ESG, sustainability and impact,” says Nyandoto.

Within the private debt space, the asset owner contemplates adding to several segments: “we may increase impact investments, specialty finance and asset-backed lending, while maintaining a constant weighting in direct lending,” says Nyandoto.

In October 2022, Church of Finland is also considering increasing its allocations to some areas of liquid credit, such as corporate high yield debt and emerging market debt, while keeping infrastructure debt steady. There is no exposure to asset backed securities or insurance linked securities, nor trade finance.

Absolute and relative return targets

Private debt is expected to generate positive returns in all market climates. The performance benchmark for private debt is a 5% absolute annual return, whereas traditional fixed income is benchmarked on a relative basis against market indices.

Though yield pickup is one objective for the private debt allocation this metric cannot be easily generalised:  there are no specific targets for yield pickup on private debt as it is considered on a case by case basis,” says Nyandoto.

Outlook and risk factors

The pension fund sees interest rates as being near a peak. The monetary policy outlook is that interest rates may peak in 2023 and start to fall in late 2023 and early 2024.

The credit allocation is bearing in mind other economic, financial market and geopolitical risks: “our top risk factors are default risks, liquidity risk, and how Russia’s invasion of Ukraine might impact the market environment,” says Nyandoto.

ESG: seeking better data from private debt funds

The Church Pension Fund is committed to net zero 2035, matching Finland’s national target of 2035, which is the most ambitious target in the Nordic region (where Sweden targets 2045 while Denmark and Norway aim for 2050).

“For private debt this involves monitoring green investments, commitments to TCFD, net zero targets and carbon emission calculations. We also monitor fossil fuel exclusions, and look for climate change to be included in ESG policies or other policies. However, it is relatively difficult to get quantitative ESG data from many private debt funds,” says Nyandoto. This concern is not unusual and many other allocators face the same challenges with private debt data and disclosures.

SFDR Breakdowns: anticipating more 8 and 9 funds

The Church Pension Fund allocate to funds reporting under SFDR categories 6, 8 and 9, and this is another area where private debt has some room for improvement to catch up with traditional credit: “In traditional fixed income, nearly all of our funds are article 8 (82%) and article 9 (9%). In private debt, only 15% are article 8 and 12% are article 9, but this could change in future: We expect the number of article 8 and 9 funds to go up in the coming years,” foresees Nyandoto.

Indeed, some private debt managers have already created impact strategies. “Currently 15% of the assets in private debt are invested in impact strategies, which are all making disclosures under article 9. These managers are pursuing UN SDGs 1,2,5,7 and 13,” says Nyandoto.

SDG 1 is ending poverty; SDG 2 is zero hunger; SDG 5 is gender equality and women’s empowerment; SDG 7 is affordable, reliable sustainable and modern energy and SDG 13 is Climate Action.

The Church Pension Fund itself is in the process of deciding which SDGs to prioritise.

In house ESG questionnaire

To complement the EU Sustainable Finance framework, The Church Pension Fund does its own proprietary, quantitative and qualitative, analysis of managers’ ESG policies. “Among other things, our annual ESG questionnaire asks managers for sustainability and ESG scores or ratings, carbon footprints, exclusion criteria and lists, engagement case studies and statistics, impact metrics and data, material incidents, and alignment of investments and revenues with the EU taxonomy,” says Nyandoto.

Due diligence and manager selection: an efficient and swift process

Due diligence typically takes 2-4 weeks for a new manager but could be 2 weeks for a new fund from an existing manager.

Managers are mainly sourced through seminars and conferences, industry colleagues, existing relationships and networks. “Online databases can also be useful for traditional fixed income,” points out Nyandoto.

Due diligence is done in house, with the exception of some external legal advice, and involves a close dialogue with external managers: “we work closely with our asset managers to get ideas on new investments and due diligence,” she explains.

Cash management and fund liquidity

Cash is held in money market funds and short-term deposits. The fund liquidity breakdown across the whole fixed income book, including private credit is 65% daily, 10% monthly and 25% multi-year lock up and the pension manager is taking a long term view on longer lock up funds: “we buy and hold private debt funds until maturity and have not made use of secondary markets,” says Nyandoto.

Open to newer and smaller managers

There are between 1 and 3 manager meetings per week, and there might be one meeting every two weeks with a new manager. There is no fixed target for the balance between new and old managers, which changes annually.

New funds or managers are subject to a soft limit of two-year track records, based on their strategy not their current firm.

A minimum of EUR 20 million is defined for levels of assets and the maximum share of a fund or vehicle that can be owned is 30%.