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Three lessons you can learn from Norway’s colossal pension fund
Unlike Britain, Norway didn’t squander its oil money - it built up a huge investment fund. John Stepek examines how, and what you can learn from them.
Imagine if, when Britain discovered oil in the North Sea, we'd decided to set some of that wealth aside for the future, by investing the tax revenues raised.
We'd probably have a lot of cash by now, eh?
Well, that's just what the Norwegians did. Over the past few decades, they've built those savings into one of the biggest investment funds on the planet.
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Join more than 165,000 subscribers and keep yourself informed with latest financial news, insights and expert analysis to help you understand what really matters when it comes to your finances.
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Norway's sovereign wealth fund is managed by the Norwegian central bank, on the behalf of the Norwegian people. The fund makes its money from taxes on oil and gas. It also owns oil fields, and receives dividends from its 67% stake in Norwegian oil company Statoil.
At a value of around $760bn, it's the biggest sovereign wealth fund in the world. To put that into some perspective, the fund is now so large that it owns on average 1.25% of every global company, reports the FT. One in every eighty dollars invested in the global equity market is owned by the Norwegian population. That's an incredible amount of influence when you think about it.
When it was first started, politicians envisaged the fund lasting for maybe 30 years. Now they reckon it could last for a century or more.
So what can you learn from their success?
The first lesson you can learn from Norway's sovereign wealth fund is a very simple one. But it's probably the most important lesson in investing. It's this: if you want to build a pot of money, you have to save. Britain and Norway had access to the same pot of black gold. Britain spent the money. Norway didn't. That's one reason why Britain is now one of the most indebted countries in the world, and Norway is one of the most solvent.
Now you can get tangled up in abstract macroeconomic debates about whether it really matters for a country to be as deep in the hole as Britain is. There's also the small matter of Britain having a much larger population than Norway.
But from an individual point of view, there's no doubt about it. When you retire, you'd rather be sitting on a big pot of money, like Norway, and not a big pile of debt, like Britain.
So that's the first big lesson: if you want to have a decent pot to retire on, you have to forgo some consumption today. You have to save.
Keep it cheap and simple
The second lesson is that it pays to keep things simple.
Yes, diversification is extremely important for a portfolio. You shouldn't put all your eggs in one basket. But equally, that doesn't mean you have to hold 40 different asset classes.
The Norwegian sovereign wealth fund holds just three. It aims to have 60% of its money in equities, 35% in bonds, and 5% in real estate (it's still building up to the real estate chunk). It doesn't hold hedge funds, or private equity, or even infrastructure investments. Why? Largely because they are simply too expensive.
Nor does it get distracted by comparing itself to external benchmarks. Lots of sovereign wealth fund experts' moan that Norway's fund is little more than a giant index tracker. In an FT article from last year, one pundit notes that this "may be a cost-effective way of managing money, but additional opportunities are being missed."
To which the answer has to be: so what? The Norwegian fund has been very successful on its own terms. Since 1998, it has managed to make a real return (after inflation) of more than 2% a year. That might not sound a lot. But if you are managing a vast pile of money, and you are able to not only preserve it, but to grow it at a rate that beats inflation consistently, then that's a huge success.
Buy low, sell high
The third and final lesson is to buy stuff when it's cheap, and sell it when it's expensive. It's not easy to find anything that's cheap these days. But if you're looking for an expensive asset class, the most obvious one has to be bonds.
Just now, Norway's sovereign wealth fund is less exposed to bonds than it's ever been. At the end of the second quarter of 2013, reports the FT, equities accounted for 63.4% of the fund. Bond holdings had dropped to 35.7%. That's a record low.
That's not because equities are cheap it's because bonds are expensive. "I have said before it is less a reflection of enthusiasm for the equity markets and more a lack of enthusiasm for the bond markets," said Yngve Slyngstad, the fund's chief executive.
So in such an uncertain environment, how do you make sure that you take profits when you make them, and keep buying as low as possible? The answer is: rebalancing.
Rebalancing is very simple. You decide at the outset what you want your portfolio to look like: what percentage should be in stocks? What percentage in bonds? How much in gold? Property?
You then review your portfolio regularly not more than once a quarter, not less than once a year. Your holdings will move about every day of course. But once they get too far out of line with your ideal' portfolio, you simply sell those that have grown too large, and invest in those that have become underweight'.
In the case of the Norwegian fund, if equity holdings hit 64%, the fund automatically rebalances back to 60%. In other words, it'll sell stocks until their value drops back to 60% of the fund, and invest the money elsewhere. By doing so, it is automatically selling high, and putting the money to work on better opportunities. This is something every investor should be doing regularly with their own portfolio.
What the Norwegians are buying now
So what is Norway investing in now? As well as cutting back on bonds particularly in the UK and France another item caught my eye. Norway holds around 10% of its stocks in emerging market countries. But it aims to double that to 20%.
Given the fund's sensible approach to value, and the generally gloomy attitude towards emerging markets at the moment, I think this is a good sign that it's time to start looking at emerging markets again. In a recent issue of MoneyWeek magazine, my colleague James McKeigue looked at one of the most loathed markets of all Russia.
And if this piece has got you thinking about how you manage your investments, my colleague Phil Oakley's Lifetime Wealth strategy invests along much the same lines. You can find out more about it here.
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