[Viewpoint] The Significance of an 11% Investment Return by the National Pension Fund

It has been reported that the National Pension Service (NPS) achieved an 11% investment return through fund management over the past year. In particular, it is estimated that a high return of about 30% was generated from overseas stock investments. This holds significant meaning both from a macroeconomic perspective and for the financial status of the NPS.

First, let us examine the nature of the money that the NPS invests overseas. Since the year following the 1997 foreign exchange crisis, South Korea has consistently maintained a current account surplus. However, this money is flowing out through the financial account in the form of overseas direct investment or securities investment. In the past year alone, the current account surplus was 60 billion USD, while 61 billion USD flowed out through the financial account. Of this, about 42 billion USD was outflowed as overseas stock investments. The money earned by our people through hard work in producing goods has gone out as overseas securities investments. The source of the NPS’s overseas stock investment amount is, after all, a part of this money.

The NPS managed its fund well last year. The operating return was 11%, amounting to about 70 trillion KRW. This is the highest return since 12% in 2001. The reason for such a high investment return can be found in the increase in overseas stock investments. As of the end of October last year, the assets managed by the NPS amounted to 711 trillion KRW, of which overseas stocks accounted for 156 trillion KRW, or 22%. This is nearly eight times the 20 trillion KRW (6%) in 2010.

It is estimated that the NPS achieved a high return of about 30% from overseas stock investments last year. This was due to the global stock market rising by 24% and the Korean won depreciating by 6%. The NPS earned more than 30 trillion KRW from overseas stock investments last year. This amount is more than enough to cover one year’s payments to NPS beneficiaries. In 2018, the NPS paid 21 trillion KRW to pension recipients.

The NPS’s rate of return also has a very important impact on the sustainability of the pension. According to the National Pension Financial Projection Committee, the NPS reserve fund will peak at 1,778 trillion KRW in 2041 and then begin to decline, eventually being depleted by 2057. The depletion timing can be accelerated or delayed depending on the rate of return. In the long term, the NPS’s operating return has been similar to the nominal Gross Domestic Product (GDP) growth rate. Over the past 20 years (2000?2019), the NPS’s average annual operating return was 6.03%, almost identical to the nominal GDP growth rate of 6.08%.

Going forward, the nominal economic growth rate is likely to decline further. Currently, South Korea’s potential growth rate (based on real GDP) is estimated at about 2.5%, and considering an inflation rate in the 1% range, the nominal economic growth rate will be around 3?4%. As labor, which determines potential growth, decreases and capital growth slows, the economic growth rate is expected to decline further. This implies that the NPS’s average annual operating return will also fall to 3?4%. The peak and depletion timing of the NPS reserve fund are likely to be brought forward compared to previous estimates.

In our economy, the state of savings exceeding investment will continue for a considerable period, and the current account surplus will also persist. Moreover, this money will continue to flow overseas through direct investment or securities investment. This is why not only institutional investors such as the NPS but also individual investors have no choice but to increase overseas securities investments.

The challenge lies in securing stable returns. A 30% return from overseas stock investments, as seen last year, will not continue. Since the global financial crisis that began in the U.S. in 2008, the world economy has recovered through active fiscal and monetary policies, but in the process, the debt of each economic agent has become unsustainably high. In some stock markets, bubbles have formed due to abundant liquidity. This year, returns and risks in overseas stock investments will need to be balanced.

Kim Young-ik, Adjunct Professor, Graduate School of Economics, Sogang University