Three Domestic Pension Funds and Five Mutual Aid Associations Invest 55 Trillion Won
Most Investments Are High-Risk Mezzanine and Subordinated
Most Mutual Aid Associations Also Show 'Poor Assessment of Insolvency'
This year, as the scale of commercial real estate loans maturing in the United States increases by 40% compared to previous estimates, warning signals have intensified, turning a 'red light' for pension funds and mutual aid associations investing tens of trillions of won in overseas commercial real estate.
According to the Bank of Korea on the 15th, as of the end of June 2023, the overseas alternative investment balance of major domestic pension funds and mutual aid associations stands at $115.3 billion (approximately 154 trillion won), of which real estate accounts for $41.6 billion (approximately 55.6 trillion won). The National Pension Service is investing $31.9 billion (approximately 42.6 trillion won). The Government Employees Pension Service, Teachers' Pension, and five mutual aid associations (Science and Technology, Local Administration, Military, Firefighting, Local Finance) collectively invest $9.7 billion (approximately 13 trillion won) in overseas real estate.
Recently, Bloomberg reported citing the Mortgage Bankers Association (MBA) that the maturity scale of commercial and multifamily housing real estate loans in the U.S. this year reaches $929 billion (approximately 1,240 trillion won). This is a 40% increase from the previous estimate of $659 billion. The problem is that commercial real estate prices have fallen about 20% from their 2022 peak and the downward trend continues. Therefore, the possibility of large-scale losses for domestic pension funds and mutual aid associations invested in related assets becoming a reality soon is increasing.
Some say, "Commercial real estate is the second equity-linked securities (ELS)." ELS are derivative products sold by securities firms or banks, mainly linked to stock indices, with returns determined by the index. They are classified as 'medium risk, medium return' products that can yield about 8% annually as long as the index does not fall to half its level. Recently, a large-scale loss incident occurred as the Hong Kong H Index was 'cut in half.'
Most investments are high-risk mezzanine and subordinated
Among pension funds' and mutual aid associations' overseas real estate investments, commercial real estate accounts for 73%. The investment regions are heavily weighted in North America (49%) and Europe (28%), both areas where commercial real estate prices have significantly declined. The Bank of Korea expressed concern in last year's report, stating, "Most investments are high-risk mezzanine and subordinated," and "Overseas alternative investments may have risks that are underestimated or reflected with delay, so the risk of insolvency may not be properly managed."
In the case of the National Pension Service, the scale of overseas real estate fund investments maturing within this year reaches 3.5 trillion won. Most of these are also in the U.S. and Europe. Typically, real estate funds have maturities of over five years. Before 2019, when these investments were made, the market was favorable. The period from 2017 to 2018 was when not only the National Pension Service but the entire financial investment industry actively entered commercial real estate investments. However, after the COVID-19 period, demand sharply declined due to increased remote work and has not recovered, causing values to fall. A chief investment officer (CIO) of an institution said, "Commercial real estate will not easily recover for the time being," adding, "Further declines are expected this year."
Overseas alternative investments, 'poor evaluation of insolvency scale'
As concerns over commercial real estate losses grow, the Board of Audit and Inspection is also scrutinizing pension funds and mutual aid associations. Last month, the Board sent official letters to the Teachers' Mutual Aid Association and the Administrative Mutual Aid Association to resume special audits on overseas alternative investments. Audits will first be conducted on mutual aid associations, then expanded to pension funds such as the National Pension Service, Government Employees Pension Service, and Teachers' Pension. If any wrongdoing is found during the alternative investment process, the institutions or their executives and employees may face disciplinary action. The Board had conducted large-scale audits related to alternative investments targeting pension funds last August but suspended them, and is now resuming the audits.
Some mutual aid associations do not properly reflect the plummeting value of overseas real estate in their books. Nam Jae-woo, head of the Fund and Pension Research Division at the Korea Capital Market Institute, pointed out, "Pension funds like the National Pension Service reflect asset value changes in accounting through 'fair value evaluation' annually. However, most mutual aid associations lack such evaluation systems, so many do not timely reflect losses in accounting and carry them on the books until the fund matures." Because the evaluation of insolvency scale is poor, the shock at maturity could be significant. Nam emphasized, "It is not technically difficult, so there is a need to establish a proper overseas alternative investment asset evaluation system."
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