What indexes of stock exchanges do the New Zealand Superannuation Fund buy?

The Fund has a long-term purpose and there are no withdrawals scheduled until the 2030s. The Guardians (‘we’) have therefore determined that the Fund be weighted toward growth assets, the majority of which are global equities. The least-cost way to get the necessary economic exposure to equities is passively. That is where indices – equity indices – come in.

It is important to clarify that we do not ‘buy’ indices. An index is not a product, it is simply a list of securities. Such a list is useful because it allows investors to get a general impression of how a market is performing, and to compare the performance of particular securities relative to a larger sample of securities.

Additionally, for investors wanting a simple, inexpensive – ‘passive’ – way to get broad economic exposure to equities, it is possible to replicate an index. There are three ways to do this (in each case the investor can make an investment themselves or have an external investment manager do it on their behalf):

1. An investor can buy securities in all the companies on an index. The investor’s return is therefore comprised of the returns of all of those companies and will most closely mimic the performance of that index.
2. An investor can use sampling techniques – which are still passive – to create a portfolio of some of the companies on an index, that will closely mimic the performance of that index.
3. An investor can use derivatives to replicate the performance of indices, an approach which does not involve purchasing the securities comprising the replicated index (this is called a ‘synthetic’ exposure and one reason to choose this method is that it can further reduce the cost involved).

As an example of the first method: first we tell an investment manager that we wish to have a passive equities exposure benchmarked to a particular index. The manager then buys the securities of all the companies comprising that index at the time, proportionate to each company’s weighting on that index (which is derived from its market capitalisation). As such, the equities are not ‘picked’ by the manager (which is an active, and therefore usually more expensive, style of investment).

We buy company securities, or use derivative exposures to replicate the performance of company securities, in the following indices:

• The MSCI (Developed) World Index (for large and mid-cap equities)
• The MSCI Emerging Market Index (for emerging market equities)
• The MSCI (Developed World) Small Cap Index (for small cap equities)
• The NZX50 (for NZ equities)
• The FTSE EPRA/NAREIT Developed Index (for global property)

Does the buying of indexes expose the New Zealand Superannuation Fund to investments in tobacco, whaling, or cluster munitions companies?

As discussed, when we want to buy company securities passively we do not buy an index. Rather, we can buy the securities of the companies that are on the index (or we direct managers to buy them on our behalf).

Our list of exclusions applies to our purchases of company securities. This is intended to prevent us or our managers from purchasing securities issued by the companies on that list.

At what point in the process of purchasing company securities does the New Zealand Superannuation Fund apply its exclusion or divestment policy decisions?

Exclusions
In respect of investments we make ourselves in company securities, we do not purchase the securities of companies that are on our list of exclusions. Any mandate that we give to an investment manager that empowers the manager to purchase company securities on our behalf, includes our exclusions. This has the same effect.

Divestments
We regularly review our list of exclusions and regularly update our managers on any changes in that list. If we decide to add companies to our list of exclusions, and we hold the securities of those companies, we will sell them and/or instruct our managers to do so.

Does the New Zealand Superannuation Fund employ an external specialist screening agency to monitor their investments and; if so, what advice, if any, have they had from them concerning GenCorp, Kaman, Saab, Tata Power, and Zodiac Aerospace?

We employ MSCI as our specialist screening agency; specifically, we use the MSCI ESG Manager service provided by MSCI to monitor our holdings of company securities in MSCI indices. (We monitor other investments in different ways, including directly; with the assistance of information from the UNPRI; from other investors or other sources including NGOs).
Company-specific information or advice we receive from MSCI is confidential.

More broadly, confidentiality is important to any Responsible Investment programme. This is partly for practical reasons – a company is often more likely to engage effectively if the discussions we have with them are kept confidential. But it is also sensible when, as is often the case if questions have been raised about a company’s activities or conduct, there is doubt and disagreement about key facts. Careful and ongoing analysis is required.

Any decision we make under our Responsible Investment Framework must be enduringly justifiable from both a commercial and a responsible investment perspective. We must be satisfied on the weight of evidence, as we understand it first-hand, that a company meets our exclusion criteria. In that event, the company is included on our list of exclusions.

Only then is it sensible and appropriate for us to name the company and link it with a specific, excludable activity (or activities).

Further to the answer to QWA 06262 (2011), what does he mean when he says, “each company is primarily held passively and so moves in and out of the Fund based on its market capitalisation rather than through active stock picking”?

Part of the response to the first question is relevant to this question, specifically:

“… for investors wanting a simple, inexpensive – ‘passive’ – way to get broad economic exposure to equities, it is possible to replicate an index. There are three ways to do this (in each case the investor can make an investment themselves or have an external investment manager do it on their behalf):

1. An investor can buy securities in all the companies on an index. The investor’s return is therefore comprised of the returns of all of those companies and will most closely mimic the performance of that index.
2. An investor can use sampling techniques – which are still passive – to create a portfolio of some of the companies on an index, that will closely mimic the performance of that index.
3. An investor can use derivatives to replicate the performance of indices, an approach which does not involve purchasing the securities comprising the replicated index (this is called a ‘synthetic’ exposure and one reason to choose this method is that it can further reduce the cost involved).

As an example of the first method: first we tell an investment manager that we wish to have a passive equities exposure benchmarked to a particular index. The manager then buys the securities of all the companies comprising that index at the time, proportionate to each company’s weighting on that index (which is derived from its market capitalisation). As such, the equities are not ‘picked’ by the manager (which is an active, and therefore usually more expensive, style of investment).”

We further note in respect of this question that a company’s market capitalisation determines not only its weighting, but its presence, on an index. If, for whatever reason, the company’s relative market capitalisation drops below a certain minimum size, it moves off the index (and so does not form part of a passive exposure to that index). Generally, its place will be taken by another company moving on to the index, because its relative market capitalisation has moved above the minimum size. This process of securities moving on and off an index is called ‘rebalancing’ and it is done at regular intervals by the manager of the index.