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Elo’s Equity Investments: A Dive into Home Bias and Global Diversification

Report: Systematic Strategies

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Stockholm (HedgeNordic) – The prevalence of home bias, marked by a preference for overweighting domestic assets, is rather common for many institutional investors worldwide. That holds true for Elo Mutual Pension Insurance Company and its peer pension insurance companies in Finland’s earnings-related pension system. “Compared to a global market, we have a certain home bias, which is a rather common phenomenon,” acknowledges Niko Syrjänen, Head of Equities at Elo.

About 36 percent of equity investments among Finland’s private-sector pension institutions are in Finnish shares, around 28 percent in Eurozone equities, and close to 32 percent in U.S. equities. Syrjänen attributes some of this home bias to Elo’s “long and successful history of being cornerstone investors in domestic companies.” According to Syrjänen, “we have built trust with these companies and have supported them, and which has also translated into good returns over time.” The overweighting of domestic equities brings additional advantages.

“We have built trust with these companies and have supported them, and which has also translated into good returns over time.”

“One of them is the easy access to the Finnish companies to engage with company management,” begins Syrjänen, who oversees Elo’s both listed and unlisted equities. “We can easily follow up with companies and share our views and suggestions and we also can promote our ESG agenda,” he elaborates, underscoring the informational advantage gained through a long history of engagement and analysis. Another advantage and factor contributing to home bias is “incentives such as the dividend tax exemption for domestic listed companies.”

However, Syrjänen recognizes limitations to home bias, notably the liquidity challenges posed by the Finnish equity market relative to Elo’s sizable assets under management. “One must be aware of the liquidity of the market and as it is not the same as it is in international markets,” points out Syrjänen. Elo, which used to maintain a more concentrated portfolio of Finnish stocks, “have broadened our portfolio and diversified it as much as possible in this still-concentrated market,” according to Elo’s Head of Equities. “We are also more risk aware of the liquidity nowadays and have invested in enhancing our trading capabilities.”

Building Out the Equity Allocation

As a pension insurance company, the objective of Elo’s investment operations is to ensure profitable, secure, and responsible investments. “Our investment objective is to achieve good, sustainable, and adequate returns,” reiterates Niko Syrjänen. While Elo diversifies across various asset classes to secure returns and mitigate risks, equities form the cornerstone of its investment portfolio due to their solid long-term return potential.

“We determine our overall equity allocation based on our views on the relative attractiveness of different asset classes,” explains Syrjänen. However, the solvency guidelines that Elo and other pension insurance players must comply with as pension companies impose limits on the ability to take equity risk. “The upper limit comes from the solvency framework,” he says. However, Syrjänen and his team adapt their equity allocation according to the expected return and risk outlook and the opportunity set in investment markets.

Equities currently represent about 40 percent of Elo’s €28 billion investment portfolio, spanning both listed and unlisted markets, different geographical areas, sectors, and factors. While many institutional investors opt for external management for equities exposure, Elo predominantly prefers direct investments, with over 90 percent of their portfolio of listed equities reflecting direct investments.

“We manage and execute most of our listed equity investments internally. We only use external funds, including ETFs, when we cannot invest ourselves in a cost-effective and value-added way.”

“We manage and execute most of our listed equity investments internally. We only use external funds, including ETFs, when we cannot invest ourselves in a cost-effective and value-added way,” explains Syrjänen. For emerging markets, Elo relies on external funds to achieve the most efficient implementation due to their fragmentation.

“If we don’t see that there are opportunities to add value using active management, we take the market risk approach,” emphasizes Niko Syrjänen. In opting for a market risk approach, Elo takes a direct investment route, eschewing intermediary vehicles such as ETFs and investment funds. This deliberate choice reflects a preference for direct exposure to the markets, aiming to capture market returns without any additional layers introduced by other investment vehicles. “We manage internally most of our developed markets indices, seeking market return.”

“If we don’t see that there are opportunities to add value using active management, we take the market risk approach.”

“In international listed equities, we mainly use a quantitative approach to investing, to reduce risk, save costs, and increase returns,” explains Syrjänen. Elo’s systematic and rule-based investment approach helps avoid emotional biases, creating stable, well-diversified portfolios across different sources of return. Their goal is to generate excess returns over a broad equity market with well-analyzed, executed and monitored strategies that adapt to regional differences and changes in sources of return. “We track and analyze regional differences and changes in sources of return and adapt our operations accordingly,” says Syrjänen.

“A valuable benefit in our way of investing is that we are able to apply exclusions, constraints, priorities, and engagement measures to all our direct equity investments, in line with our responsibility guidelines and climate policy,” argues Syrjänen. Elo has developed its benchmark indices, that are in line with their sustainability approach, used for over 90 percent of its listed equity investments. In addition to exclusions and norm-based screening, “We engage with the companies by ourselves or in collaboration with other investors and stakeholders, to influence their ESG performance and practices.” Elo also exercises ownership rights through voting and participation in general meetings. Continuous development and following the latest scientific information and global frameworks are major part of implementing Elo’s responsible investment.

Hands-On Stock Picking in Finland

In constructing its portfolio of domestic equities, Elo employs a bottom-up-driven stock-picking approach, emphasizing strict risk management. “We are able to manage the portfolio with the limited resources we have because the Finnish listed equity universe is relatively small,” explains Syrjänen. “We have a long history with the companies, and we know them well after following and analyzing and investing in them over a long period,” he emphasizes. The end goal is to outperform the domestic market in the long run with limited risk.

“We are able to manage the portfolio with the limited resources we have because the Finnish listed equity universe is relatively small.”

Despite the concentration of the Finnish equity market, where the largest 25 companies represent over 80 percent of the total market cap, Elo strives for a broad Finnish equity portfolio. “Our strategy is to generate alpha by taking systematic and disciplined deviations from the market based on our own updated company analysis,” explains Syrjänen. The team limits the size of these deviations to avoid excessive risk and focuses on successful stock picking based on a dynamic model portfolio that is constantly updated.

Difficult Environment for Finnish Stocks

The home bias for Elo and its peer pension insurance companies has posed challenges in 2023, with the Helsinki Stock Exchange underperforming international markets. The sectoral structure, dominated by industries sensitive to economic cycles, has contributed to this underperformance. “One factor for this weakness is the sectoral structure, which is dominated by industrials, basic materials, and energy sectors,” explains Syrjänen. “These sectors account for almost 50 percent of the market and they are typically more sensitive to economic cycles.”

The Finnish stock market is concentrated in certain sectors and many of the companies operate in capital-intensive and cyclical industries. “This concentration of the market also makes it vulnerable to idiosyncratic risks.” According to Syrjänen, “The market has and may still experience some volatility and uncertainty in the near term.”

“The Finnish market offers some attractive investment opportunities for long-term investors who are looking for quality companies with strong fundamentals and growth potential.”

Despite these challenges, Syrjänen sees an attractive valuation in the Finnish market after weak performance and remains optimistic about long-term opportunities. “The Finnish market offers some attractive investment opportunities for long-term investors who are looking for quality companies with strong fundamentals and growth potential.” In the long term, Syrjänen believes that “the Finnish equity market has good opportunities to grow and diversify. After all, Finland is known for its innovation, education, and competitiveness.”

The market may also benefit from some emerging trends, such as digitalization and green transition, which may create new business opportunities for Finnish companies. “The market may also attract more foreign investors who are looking for exposure to the Nordic region, which is generally seen as a stable and resilient market once geopolitical risks calm down,” according to Syrjänen.

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Eugeniu Guzun
Eugeniu Guzun
Eugeniu Guzun serves as a data analyst responsible for maintaining and gatekeeping the Nordic Hedge Index, and as a journalist covering the Nordic hedge fund industry for HedgeNordic. Eugeniu completed his Master’s degree at the Stockholm School of Economics in 2018. Write to Eugeniu Guzun at eugene@hedgenordic.com

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