I analyzed the balance sheets of the pension funds in Iceland. This information is available in the Central Bank of Iceland‘s website. My assessment is that the pension funds in Iceland are on shaky grounds. I feel the pension funds have been constrained by the current capital controls regime. There is enough research to point out that Capital Control regimes don’t work, that topic is for another day post. There is limited supply of invest-able assets in Iceland and that is what prompted me to look into this problem. I wanted to see how the composition of assets in the Pension funds have evolved over the years and what can one infer from this. It is understandable that the Pension funds want to be their own Private Equity funds and have invested in running their own funds. This is not a very good strategy and once again I fear the Pension funds would think that they can run their own hedge funds to accommodate the lack of supply of assets and manage their risk. If there is one thing that we know about hedge funds is that they go bust and I don’t even want to contemplate what would happen if one of the Icelandic Pension goes bust. Pension funds wanting to hedge their own bets is evident when one looks at their balance sheet where they are starting to take Derivative positions, at the end of October 2011 the derivatives position stands at mISK -63.256 (-$516.797.385,62), this line item started showing up in the balance sheet since 2008. Derivatives are weapons of mass destruction and I sure do hope the teams that are running the Pension funds know what they are doing and they don’t have any off-balance sheet liabilities that are tied to the derivative positions. This is what brought down Lehman brothers!
1. Cash and Deposits: The total amount of Cash and Deposit was mISK 153.964 ($1.257.875.816,99) at the end of October 2011. Cash holdings have increased by over 242% since the end of 2007. This amount is earning negative yield in bank deposits. The pressure to deploy this capital is only going to increase and given the dearth of assets, I fear it is going to give rise to an asset bubble either in commercial real estate or Government securities.
2. Government and Municipalities bonds: This is the most troubling development after the collapse of the Icelandic financial system. Government bonds being owned by the pension funds has increased by over 335% and Municipal bonds by over 92% since the end of 2007. Increasing the government borrowing for investment purposes is a good thing i.e building infrastructure for the country or building power plants etc. I think the increase in Government borrowing has been fully utilized to pay interest and to recapitalize the banks. A functioning banking system is one of the pillars of the society.
3. Housing bonds: The pension funds have been investing in the housing market since the inception of the pension fund system in Iceland, however the amount of money going into the Housing fund has dramatically increased since 2003. Looking at the graph it is quite clear who is the underwriter of the entire real estate market in Iceland.
The composition of the invested amount between Domestic securities and Foreign securities is quite interesting as well. When the world markets have given some terrific returns since the financial crisis in 2008, the Pension funds in Iceland have relatively mild exposure thereby mild return since the collapse. Again, one wonders if that is the right strategy? While they have been increasing the supposedly “risk-free” Icelandic Government bonds the investing world has been screaming that Government Bonds are not “risk-free”, have you looked at Greece Bond prices lately? or for that matter the French Bonds?
The spreadsheet with the raw data can be found here, I had to do considerable work to make the data tell me the whole picture as the information provided by the Central Bank is not easy to analyze.