In contrast to the proposal of the managers of closed-end investment funds, Matías Eguiguren, founding partner of Santiago-based Picton Advisors, said the best way for AFP pension managers to access alternative asset classes was through direct investment in these instruments, not through local structures such as Chilean-domiciled feeder funds.
The executive gave this analysis in the context of a public discussion on the need to encourage investment by AFPs in more remunerative assets, such as alternatives, with a view to obtaining better returns and thus granting their affiliates with larger-sized pensions down the road. As noted previously by Fund Pro Latin America, the Chilean pension regulator has taken an interest in this subject, with an eye toward boosting AFP access to alternative investment strategies.
Allowing the AFPs to invest directly in cross-border alternatives would have a direct impact on the Chilean closed-end fund industry, which provides the local wrapper for nondomestic investment, as is required currently to be eligible for AFP investment.
Cristián Letelier, director of the association of closed-end funds and managers (ACAFI), which encompasses managers of venture-capital funds, private-equity funds and closed-end funds in general, says that an increase in AFP allocations to alternative assets could and should be achieved via his industry, rather than through direct investment, since local feeder funds offer important benefits such as diversification via investing in a basket of investments, outsourcing investment decisions to expert teams, greater control of investments through dedicated third-party experts and the taking of investment decisions based on managers’ track record.
However, for Eguiguren of Picton, direct investment offers particular advantages for pension funds. “In the case of pension funds the ideal would be for the regulator to permit direct investment in alternative funds, and not necessarily through feeder funds, so they can be more aggressive and have the opportunity to differentiate themselves.” He noted as well that since local feeders require at least three shareholders (no one investor may hold more than 35% of the local vehicle), this limit should be removed or at least be raised to 50% to make two AFPs sufficient to complete a feeder fund.”
Eguiguren added that in the case of insurance companies and family offices, the competitive advantages offered by feeder funds in tax terms are very important; so, “as long as these incentives remain these investors will continue investing through feeder funds rather than direct investment.” AFP pension funds, for their part, are exempt entities and investing in onshore of offshore vehicles has no tax impact.
Asked if the AFPs’ significant positions in short-term instruments would make it more challenging for them to invest in low-liquidity alternatives, the Picton founder claims that aspect would not be decisive. “Pension funds are long-term investors with the objective of paying the best possible pensions to their members in the long term,” Eguiguren said. “From this point of view, alternative assets present themselves as a very attractive alternative investment because they offer a higher return than liquid financial assets, which clearly justifies the liquidity premium that investors should require from these investment vehicles because they are not liquid.”
Finally, the executive said alternative assets will gain more and more space in pension fund portfolios, and “should at least reach the levels of public pension funds in the United States of around 10%.”