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REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14... taking calculated risks while investing for the long term2014 HIGHLIGHTSPERFORMANCE The annualised 20-year real rate of return for the year ended 31 March 2014 was 4.1%. In USD nominal terms, GIC achieved an annualised return of 12.4%, 7.0% and 6.5% for the five-year, 10-year and 20-year time periods respectively. EXPANDING GLOBAL PRESENCE WITH A NEW OFFICE IN BRAZIL GIC expanded its global presence with the 10th office set up in Sao Paulo, Brazil, on 1 April 2014. We aim to broaden and deepen our network of contacts to develop investment opportunities with a local presence in Latin America. NEW BOARD APPOINTMENT Mr S Dhanabalan joined the GIC Board on 1 August 2014. He brings with him extensive experience in finance and a strong sense of duty to invest well for Singapore’s future. NEW APPOINTMENT OF CHIEF OPERATING OFFICER Mr Goh Kok Huat was appointed Chief Operating Officer with effect from 1 April 2014. This is a new position in GIC. Mr Goh continues concurrently as President of GIC Real Estate. As Chief Operating Officer, Mr Goh’s responsibilities include integrating operations to enhance GIC’s investment performance. RETIREMENT OF MR STEVEN GREEN FROM THE GIC INTERNATIONAL ADVISORY BOARD Mr Steven Green concluded his term as a member of the GIC International Advisory Board in September 2013. He had also been a Director on the Board of GIC Real Estate from July 2008 to September 2011. We thank Mr Green for his many contributions to GIC. APPOINTMENTS AND RETIREMENTS OF MANAGING DIRECTORS Six Managing Directors retired in the 12 months since July 2013 C Mr Kent Goodwin, Mr Kunna Chinniah, Ms Ho Nyuk Chong, Mr Ng Kin Sze, Ms Pang Wai Yin and Ms Wong Wei. We are grateful for their many years of service and their valuable contributions to GIC. Six Managing Directors were appointed in July 2014 C Mr Stuart Baldwin, Ms Elizabeth Chau, Mr Kim Jun Sung, Mr Dominic Lim, Mr Loh Wai Keong and Ms Betty Tay.REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/141? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14THE GIC PRIMERP RPRUDENCE RESPECTWe exercise prudence and sound judgement and take a considered approach to managing risks as we seek to deliver sustainable, superior investment returns, always conscious of our overriding fiduciary responsibility. As an institution and as individuals, we conduct ourselves with good sense and circumspection, even as we take the best advantage of our large asset base, global presence, multi-asset approach and long-term orientation. We stress teamwork within and across departments, and with our clients and business partners. We expect everyone to be free, candid and constructive in their comments and suggestions, and always seek to help our colleagues and GIC do better. All of us are united in a common endeavour, regardless of who we are, where we work or what we do. We respect people as individuals, care for their well-being, and welcome diversity in capability and background. We do not tolerate behaviour that works against the interest of our clients or of GIC.INTEGRITYI M EMERIT EXCELLENCEWe recruit and develop our people solely on merit. We draw our talent from around the world and provide challenging and meaningful work. We grant recognition and reward based on performance and conduct consistent with our PRIME values. We develop our people to achieve their potential so that we may also perform to our potential. We are relentless in our pursuit of excellence. In all that we do, we strive to be the best that we can be. This demands that we plan and anticipate well, so that we will always be in time for the future, fully able to take up the challenges and opportunities that come, pursuing improvements where they may be found, and economies where these may be gained. We select business partners based on their capability. We believe in long-term relationships built upon high levels of performance and quality of service. We expect everyone to do his best in every situation. We harness the creativity and imagination of our people and our business partners for sustainable, superior results.OUR RESPONSIBILITY IS TO PRESERVE AND ENHANCE SINGAPORE’S FOREIGN RESERVES. PEOPLE AND TALENT ARE CENTRAL TO WHAT WE CAN DO. WE BELIEVE THAT THE RESULTS WE SEEK ARE BEST ACHIEVED THROUGH A CULTURE FOUNDED ON OUR FIVE PRIME VALUES OF PRUDENCE, RESPECT, INTEGRITY, MERIT AND EXCELLENCE.Everything we do is founded on integrity. We expect the highest standards of honesty from everyone in GIC, both in our work and in our personal lives. This includes abiding by the laws of the countries we invest in, and observing our code of ethics in letter and in spirit. We must never jeopardise the trust others have in us and in our reputation for professionalism.2? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/143T H E G I C W AYThe GIC Way is a set of principles that defines the way we think and act. It sharpens our focus on our client, our commitment to people and our future. The PRIME Values acts as our compass C having a good compass enables us to get back to our fundamental purpose and beliefs, especially when we are faced with situations we have not come across before.4? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14CLIENTS FIRSTWhen our Clients do well, we do well Never compromise our PRIME v not even for better returns Always follow GIC’s investment principles (5Ps):Pursue intrinsic value and maintain price discipline Practise long-term investing Pick our spots: be focused and leverage our strengths Pay attention to risk control Prepare for the futurePEOPLE ― THE KEYDo what’s right, not what’s easy Help GIC make the best decisions. Speak up if you have a different view Attract exceptional people and develop them to their full potential Embolden innovation and encourage learning Reward what matters: not pedigree, age, gender or nationality E make a difference Empower decision-making at every level Work seamlessly across boundaries and hierarchy C OneGICFUTURE NOWTomorrow is determined today Build leadership and resources for the future Insist on nimble and responsive structures and processes5? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14CONTENTS7
OVERVIEW BY GROUP PRESIDENT & GROUP CHIEF INVESTMENT OFFICER INVESTMENT REPORT MANAGING THE PORTFOLIO F E AT U R E A R T I C L E : P R I V AT E E Q U I T Y32 GOVERNANCE 61
OUR PEOPLEOVERVIEWBY GROUP PRESIDENT & GROUP CHIEF INVESTMENT OFFICERGIC has sustained steady long-term investment returns on the foreign reserves of the Singapore Government that we manage. The GIC Portfolio’s 20-year annualised real rate of return for the year ended 31 March 2014 was 4.1%, compared to 4.0% for the previous year. In USD nominal terms, the GIC Portfolio generated an annualised return of 6.5% over the same 20 years. The investment performance and how it compares against our Reference Portfolio are discussed more fully in the Investment Report. Global financial markets have been recovering strongly from the 2008/9 Global Financial Crisis, supported by low interest rates and unconventional monetary policies. Asset prices have risen strongly but the outlook for economic growth and earnings have not, thus far, improved as much. An example would be US equities which have done very well, but for which underlying earnings growth has only been modest. As monetary policy normalises and interest rates rise, financial assets will see diminished returns. This is common to all major asset classes: public equities, private equity, bonds and real estate. Further, the current high prices in financial markets portend weaker future returns, including possibly negative returns at some point. The investment environment for the next 10 years will therefore be more challenging for global investors, including GIC. GIC takes a long-term investment approach. We seek to invest in assets which provide sustainable returns over time. Our globally diversified portfolio provides resilience and enables us to take advantage of opportunities across many markets. GIC implemented a new investment framework in 2013, which allocates capital to assets and investment strategies based on opportunity cost. The framework exploits GIC’s unique strengths: The ability to take a long-term in capabilities to invest in cross- a skilled
and a governance structure that distinguishes clearly the responsibilities of the GIC Board and management. To realise the full potential of the investment framework, GIC did an organization-wide process and operations review to improve on our operating model and to build our investment capability and agility. We strive to make our operating model and systems more resilient, so that we can sustain good investment results. GIC expanded our global presence with the inauguration of our 10th office, in Sao Paulo, Brazil, on 1 April 2014. Given a local presence in Latin America, we will be able to broaden and deepen our network of contacts to develop investment opportunities in the region.7? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14Mr S Dhanabalan joined the GIC Board on 1 August 2014. He brings with him extensive experience in finance and a strong sense of duty to invest well for Singapore’s future. Mr Goh Kok Huat was appointed Chief Operating Officer with effect from 1 April 2014. This is a new position in GIC. Mr Goh continues concurrently as President of GIC Real Estate. As Chief Operating Officer, Mr Goh’s responsibilities include integrating operations from front through mid and back office to enhance GIC’s investment performance. In September 2013, Mr Steven Green concluded his term as a member of the GIC International Advisory Board. He had been a Director on the Board of GIC Real Estate from July 2008 to September 2011. We thank Mr Green for his many contributions to GIC. We also thank all GICians for the energy and imagination that they bring to the tasks and challenges before them. There will be more changes as we enhance operations to support our investment framework and compete in a more crowded and uncertain investment environment. GICians must continue to do what is good and right for GIC and for Singapore.LIM SIONG GUAN Group PresidentLIM CHOW KIAT Group Chief Investment Officer8? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14INVESTMENT REPORTLONG-TERM INVESTMENT PERFORMANCE GIC’s mandate is to take calculated risks in order to achieve long-term returns, over an investment time horizon of 20 years. The primary metric for evaluating GIC’s investment performance is the rolling 20-year real rate of return on the GIC Portfolio. The goal is expressed in real terms because GIC must, at a minimum, preserve the international purchasing power of the reserves placed under its management. Over the last 20 years, inflation has reduced the purchasing power of investors generally by about 2-3%1 per year. This is why GIC seeks investments which return more than the rate of inflation. Over the 20 year-period ended 31 March 2014, the GIC Portfolio has generated an average annual real2 return of 4.1%. This long-term real return has held fairly steady over the last five years (Figure 1). Expressed in nominal USD3 terms, the GIC Portfolio has generated an average annual nominal return of 6.5% over the same 20-year period. This means that US$100 invested with GIC in 1994 would have grown to US$352 today. INVESTMENT APPROACH A long-term investment approach affords GIC advantages. First, it enables GIC to benefit from the compounding of returns. Second, it allows GIC to be contrarian in the face of short-term market sentiment. Third, GIC is able to reap long-term returns from assuming illiquidity risk. In particular, our investments in illiquid asset classes such as real estate and private equity4 help improve long-term returns on the GIC Portfolio.Figure 1: Annualised Rolling 20-Year Real Rate of Return for the GIC Portfolio Since 200120-Year Real Rate of Return6 5 4 % 3 2 1 0 03 06 09 12 Year ended 31 March 20141 2 3
Based on advanced economies’ inflation over the last 20 years from the IMF’s World Economic Outlook database.
The real return number is independent of the currency used to compute it.
The nominal rates of return have been reported in USD terms since our 2009 report as the USD is the most common currency base for publishing global investment returns.
Refer to this year’s feature article, Private Equity.49? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14INVESTMENT REPORTEFFECTS OF COMPOUNDING OVER A LONG TERM HORIZON
Compounding is what makes money invested at a rate of return grow in value more quickly. Suppose one invests $100 in a savings account that pays 5% nominal interest per annum. The $100 will increase to $265 in 20 years, and $704 in 40 years. CONTRARIAN INVESTING One way that GIC takes a contrarian stance is through a disciplined rebalancing of the portfolio to its longterm asset mix. This involves systematically buying more of the asset which has fallen in value, and selling some of the asset which has risen in value to keep theasset composition steady over time. For instance, when equities do particularly well, the rebalancing rule requires that equity holdings be cut back. Conversely, when equities perform poorly, such as after a crash, rebalancing calls for increasing holdings of the undervalued assets. Numerous studies have shown that in the long run, a portfolio that is rebalanced regularly to its predefined target allocations tends to outperform a portfolio whose allocations are allowed to drift. As illustrated, the value of a composite 65:35 portfolio comprising global equities and bonds that is rebalanced quarterly back to the initial fixed weights would have grown by more than one that is left passively over the past 20 years.Effects of compounding: $100 invested at 5% per annum800 600$400 200 0 0 10 20 30 405% per annum (Compound interest) 5% per annum (Simple interest)No. of YearsGrowth of a drifting versus quarterly rebalanced 65:35 portfolio of global equities and bonds500 400 $ 300 200 100 096 99 02 05 08 11 14Drifting MixRebalanced Quarterly to Fixed Weights10? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14INVESTMENT REPORTGIC’s long-term performance reflects two main factors: First, the performan and second, its asset allocation strategy, which reflects the amount of risk that GIC takes. For a given level of risk, we strive to optimise the GIC Portfolio to achieve the bestpossible long term return. Our investment approach, including the New Investment Framework that was implemented in 2013, is summarised in the box item below. It is elaborated on in the chapter on ‘Managing the Portfolio’.EVOLUTION OF THE GIC PORTFOLIO The GIC Portfolio has evolved significantly since inception. The increased exposure to public equities and alternative asset classes has led to a shift in our portfolio’s medium- to long-term risk and return profile. This is illustrated in Figure 2, which shows returns over the last 20 years for two distinct comparator portfolios5. The 30:40:306 portfolio reflects our more conservative risk orientation initially, before we adopted a risk profile broadly similar to a 65:357 global portfolio in the last decade. THE NEW INVESTMENT FRAMEWORK GIC’s New Investment Framework, implemented on 1 April 2013, consists of three key components: the Reference Portfolio, Policy Portfolio and Active Portfolio. The Reference Portfolio comprises 65% global equities and 35% global bonds, and can be thought of as a passive alternative for a large global investor such as GIC. It characterises the risk that the Government is prepared for GIC to take in its long-term investment strategies, and it frames long-term return expectations. Importantly, the Reference Portfolio is not a shortterm benchmark for GIC; GIC’s investment strategy is not to track the Reference Portfolio, but to build a portfolio comprising asset classes that generate goodreal returns over the long term. This necessarily results in short-term deviations between the GIC Portfolio and the Reference Portfolio C and can indeed result in significant differences in performance from time to time. It is aimed at delivering better long term results. The Policy Portfolio represents GIC’s asset allocation strategy over the long term. The current Policy Portfolio comprises six core asset classes, which represent key systematic or market risks. The Policy Portfolio encapsulates the bulk of the risk and return potential of the GIC Portfolio. Realising the returns of these asset classes requires a long-term investment approach. The Policy Portfolio is hence not intended to be adjusted frequently or in response to market cycles. The Policy Portfolio is complemented by an overlay of ‘active’ strategies. Assets are allocated to investment managers and strategies which seek to deliver superior returns to the Policy assets, while maintaining a similar risk profile. These investment strategies are considered ‘active’, as they entail actively chosen positions which differ from the Policy Portfolio. Active strategies allow GIC to add value on top of the Policy Portfolio, and to access investment opportunities which are not easily tapped via passive investment vehicles. Carrying out active strategies requires a robust investment process and skilful investment managers.5 6 7
These comparator portfolios are not GIC’s benchmarks but are indicative of the broad risk-return alternatives.
Portfolio comprises 30% global equities, 40% global bonds and 30% global cash.
Portfolio comprises 65% global equities and 35% global bonds.11? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14INVESTMENT REPORTFigure 2: Long-term risk-return profile of GIC Portfolio versus comparator portfolios8% 65:35 Portfolio Return: 7.2% Volatility: 10.8% 6% 30:40:30 Portfolio Return: 5.8% Volatility: 6.5%20-Year Annualised USD ReturnGIC Portfolio (Reflects two phases) Return: 6.5% Volatility: 9.1%4%2%0%REFERENCE PORTFOLIOPassive portfolio: set at 65% 35% global bonds Represents Risk LevelPOLICY PORTFOLIOAllocation among six core asset classes Key driver of returns over the long term Approved by GIC BoardACTIVE PORTFOLIOGIC PORTFOLIO+Comprises overlay of active, skill-based strategies Adopted by GIC Management Overseen by GIC Investment Board=Represents actual exposures of GIC Portfolio Within risk limits set by Government12? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14INVESTMENT REPORTTHE GIC PORTFOLIO GIC’s returns reflect the proportions of its portfolio that are held in different asset classes, each carrying a different risk profile. Growth assets such as equities generate high returns, but also come with higher risk. Defensive assets such as sovereign bonds offer lower returns, but have lower risk and protect the portfolio from market downturns. Figure 3 illustrates how US$100 invested in different asset classes would have grown over 20 years from 1994 to 2014 based on market performance. It shows that equities generate higher returns C US$100 invested in 1994 would more than quadruple to US$423 in 2014 C but the growth trajectory is more volatile. On the other hand, cash and bonds experience more stable paths, but consequently deliver lower returns over the same span of time. GIC constructs a diversified portfolio to benefit from the distinct characteristics of these asset classes. Figure 4 shows the asset class allocations of the GIC Portfolio. These allocations allow the GIC Portfolio to generate good long-term returns via a substantial allocation to growth assets. There is also protection from downside risk by holding defensive assets.By construct, a diversified portfolio of multiple asset classes will underperform highly concentrated portfolios under specific market conditions. In a bull market, a concentrated portfolio of growth as in a bear market, a portfolio of safe assets will perform the best. Depending on market conditions, the underperformance of a diversified portfolio relative to highly concentrated portfolios may last for some time. However, across multiple economic cycles, a welldiversified portfolio provides the best mix of safety and growth. Hence, a long investment horizon is necessary in order to reap the full benefits of a well-diversified portfolio. Table 1 and Table 2 show the asset mix and geographical distributions of the GIC Portfolio as of 31 March 2014. Under the New Investment Framework, the GIC Portfolio is represented by six asset classes. Skillbased strategies are subsumed under these asset classes based on their risk and return characteristics. The asset mix for 31 March 2013 has been reclassified to reflect this and thus differs from what was previously presented. In addition, our investments in natural resources stocks have been categorised as developed market equities or emerging market equities depending on their geographical exposure.Figure 3: Long-term nominal returns of asset classes500$100 invested in different asset classes from 1994 - 2014$423400US$300$310200$176100 96 99 02 05 08 11 14Global CashGlobal BondsGlobal Equities13? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14INVESTMENT REPORTFigure 4: Policy Portfolio with effect from 1 April 2013 11 - 15% PRIVATE EQUITY 9 - 13% REAL ESTATE 4 - 6% INFLATIONLINKED BONDS 25 - 30% NOMINAL BONDS & CASH 20 - 30% DEVELOPED MARKET EQUITIESThe GIC Portfolio continues to build its exposure to emerging market equities and bonds while keeping portfolio risk at around the same level. There were no major changes to the geographical exposure of GIC’s investments8.15-20% EMERGING MARKET EQUITIESTable 1: Asset Mix of the GIC PortfolioAsset Mix Developed Markets Equities Emerging Markets Equities Nominal Bonds and Cash Inflation-Linked Bonds Real Estate Private Equity Total 31 March 2014 (%) 29 19 31 5 7 9 100 31 March 2013 (%) 36 17 29 2 8 8 100Table 2: Geographical Distribution of the GIC PortfolioGeographical Distribution United States Americas Latin America Others United Kingdom Europe Eurozone Others Japan Asia North Asia Others Australasia Total931 March 2014 (%) 34 4 4 8 14 7 10 14 3 2 100 2 100 27 29 4231 March 2013 (%) 36 4 4 8 11 6 10 13 5 3 100 3 100 28 25 448 9
Changes in the asset mix and geographical composition between 31 March 2013 and 31 March 2014 are driven by changes in allocation, as well as valuations.
China, Hong Kong, South Korea and Taiwan14? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14INVESTMENT REPORTINTERMEDIATE AND LONG-TERM INVESTMENT PERFORMANCE Table 3 shows the performance of the GIC Portfolio alongside the Reference Portfolio and looks at investment returns in the context of risk as defined by annualised volatility. As the Reference Portfolio was adopted from 1 April 2013, the historical comparison is intended for illustrative purposes. GIC’s 20-year return at 6.5% per annum in USD terms was lower than the Reference Portfolio return of 7.2%. As explained earlier, a major reason is that our asset allocation until 10 years ago had a more conservative orientation than the Reference Portfolio. GIC’s lower risk profile over 20 years is indicated by the lower volatility for our portfolio at 9.1% in contrast to that for the Reference Portfolio at 10.8%. To give a sense of on-going portfolio performance, we provide the nominal rates of return in USD terms over 5- and 10-year periods. These investment results serve as medium-term trackers of how GIC’s 20-year results are evolving. In the last decade, GIC has significantly increased its exposure to public equities and alternative asset classes while reducing its allocation to bonds.Consequently, the GIC Portfolio returned 7.0% per annum in USD terms over the 10-year horizon. This performed slightly better than the Reference Portfolio. Over the shorter term of five years, the GIC Portfolio returned 12.4% per annum in USD terms. This sharp recovery, from the 5-year return of 2.6% last year, was driven by global markets rebounding strongly from the lows during the Global Financial Crisis (GFC). Risk assets C in particular, public equities in the US C performed very well. Such a variation in 5-year returns from year to year is not unexpected given the volatile nature of financial markets. GIC’s performance was nevertheless lower than that of the Reference Portfolio over the 5-year period. This is because the GIC Portfolio held less developed market equities, and more private market assets and emerging market equities than the Reference Portfolio. Private market assets and emerging market equities, while expected to provide good long term returns, have not done as well as developed market equities over the last five years. (See this year’s feature article, which discusses our investment approach with regard to Private Equity.) The GIC Portfolio was less volatile than the Reference Portfolio over all three time periods.Table 3: Performance and Volatility of the GIC Portfolio and Reference PortfolioTime PeriodAnnualised nominal return10 (US$) for period ended 31 March 2014 GIC Portfolio Reference Portfolio 13.9% 6.7% 7.2%Annualised volatility for period ended 31 March 2014 GIC Portfolio 10.1% 10.2% 9.1% Reference Portfolio 11.6% 11.8% 10.8%5-year 10-year 20-year12.4% 7.0% 6.5%10
The GIC Portfolio rates of return are computed on a time-weighted basis, net of costs and fees incurred in the management of the portfolio. However, the Reference Portfolio rates of return are provided on a gross basis, i.e. without adjustment for costs and fees.15? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14INVESTMENT REPORTINVESTMENT EXPECTATIONS A CHALLENGING ENVIRONMENT In response to the GFC of 2007 to 2009, central banks worldwide cut interest rates and utilised unconventional policies such as quantitative easing and forward guidance to provide liquidity and stimulate their economies. This has supported asset prices, resulting in strong risk asset returns since 2009. While asset prices have risen strongly, the outlook for economic growth and earnings has not improved by as much. As a result, the yields on assets have declined. For example, the cyclically-adjusted earnings yield for US equities has fallen from 7.5% at the nadir of the GFC to 4.0% at end May 2014. Historically, there tends to be a relationship between earnings yield and the subsequent 10-year returns. The lower the earnings yield, the lower the subsequent 10-year returns tend to be. At 4.0%, the current earnings yield lies in the bottom decile of past occurrences. Subsequent returns on equities are therefore expected to be relatively weak. The challenge posed by low starting yields and low potential future returns is common to all major asset classes: Public equities, private equity, bonds and real estate. Further, the current high prices in financialmarkets now portend weaker returns in future, including possibly negative return at some point. The investment environment for the next 10 years will therefore be more challenging for global investors, including GIC. Over a longer 20-year horizon, we expect the 20-year real return for both the GIC and the Reference Portfolio to remain modest, at around current levels. As an indication of expected return and risk, Figure 5 shows the distribution of the simulated 5- and 20-year annualised real returns11 of the Reference Portfolio. This demonstrates two essential points. First, there is a wide dispersion around the expected annualised returns over both horizons. In particular, the possibility of low and negative returns cannot be ruled out for global investors. Second, as the investment horizon increases, the probability of negative returns decreases. This is as depicted by the narrower distribution of 20-year annualised returns. It is worth noting that while the variation in annualised returns decreases as the time horizon lengthens, the yearto-year volatility remains high. An extended investment time frame does not imply certain gains. Long-term investors have to be prepared to ride out short-term volatility to realise better returns over the long haul.Figure 5: Distribution of simulated 5- and 20-year annualised real returns of the Reference Portfolio0.20.15Probability density0.10.05-20-15-10-5051015202530Simulated Annualised Returns (%)5-year Annualised Returns1120-year Annualised Returns
We use a third-party asset liability scenario (ALS) model to simulate the likelihood of a range of returns at the end of 5 and 20 years. Monte Carlo simulation with 10,000 scenarios is used to generate the portfolio’s future return distribution based on historical data. While it is not predictive, it provides a sense of the portfolio’s future returns over different time horizons.16? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14INVESTMENT REPORTBUILDING A RESILIENT PORTFOLIO Risk is inherent in investing. While GIC cannot avoid taking market risk, it is important that the GIC Portfolio does not take on excessive risk in pursuit of investment returns. The GIC Portfolio is designed to be resilient. It seeks to achieve superior returns through diversification and portfolio construction that carefully considers the way different assets respond to possible market and economic conditions. By optimising the investment of funds across asset types, geographical regions, industries, and companies, the GIC Portfolio is more robust than the Reference Portfolio. For example, our portfolio is likely to be better diversified and less sensitive to equity market volatility because of allocations to nominal bonds, inflation-linked bonds and real estate. Our strategy of diversification also aims to reduce concentration risk C if a single asset is not performing well, its performance will be offset by other assets which are doing better at that time. This is likely as asset returns do not move completely in tandem.The task of diversifying has become more complex in recent times as asset classes have become more correlated. Nonetheless, we believe that having our strategically diversified asset mix puts us in good stead to benefit from changing market cycles. Historically, the GIC Portfolio, which consisted of a more diversified mix of assets, experienced a lower drawdown compared to the Reference Portfolio during market crashes, such as during the GFC. Looking ahead, we expect the GIC Portfolio to suffer lower losses than the Reference Portfolio during stress periods12. As the GIC Portfolio seeks to deliver good long-term real returns, its construction process is agnostic about the short-term behaviour of the Reference Portfolio. Hence, while we are confident about the long-run expected performance of the GIC Portfolio, we do not expect the GIC Portfolio to outperform the Reference Portfolio over short periods.12
This is based on the bottom decile of 5-year cumulative return of the Reference Portfolio and the GIC Portfolio using Monte Carlo simulation.17? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14MANAGING THE PORTFOLIOGIC’s mission is to preserve and enhance the international purchasing power of the reserves placed under our management by the Singapore Government. The aim is to achieve good long-term returns above global in?ation over the investment time horizon of 20 years. GIC’s revised investment framework enables us to manage risk better, take advantage of investment opportunities in a more volatile environment, and strengthen our ability to add value.18? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14MANAGING THE PORTFOLIOINVESTMENT FRAMEWORK GIC’s mission is to preserve and enhance the international purchasing power of the reserves placed under our management by the Singapore Government. The aim is to achieve good long-term returns above global inflation over the investment time horizon of 20 years. In response to a more challenging investment environment ahead, GIC introduced the New Investment Framework which was implemented on 1 April 2013. This revised investment framework would enable us to manage risk better, take advantage of investment opportunities in a more volatile environment, and strengthen our ability to add value. Under this framework, we make explicit distinctions among three drivers of GIC’s long-term performance. The first driver of returns is the performance of global markets. This is represented by the Reference Portfolio, which reflects the Singapore Government’s risk and return expectations. Second, GIC’s strategy for asset allocation, which is represented by the Policy Portfolio, aims to achieve returns superior to the Reference Portfolio over the long term. The Policy Portfolio is approved by the GIC Board, and comprises six asset classes. Third, active investment strategies, as embodied by the Active Portfolio, seek to out-perform the Policy Portfolio within risk limits that are set by the GIC Board. These strategies, which are adopted by GIC management, involve selecting investment opportunities within each asset class, as well as investing in asset classes that are not contained in the Policy Portfolio and in cross-asset class strategies. As illustrated below, the investment framework clearly sets out responsibilities across GIC, from investment professionals to the Board. In the following sections, we describe the management and governance of our portfolio in light of our investment framework.REFERENCE PORTFOLIOPassive alternative portfolio: set at 65% 35% global bonds Represents Risk LevelPOLICY PORTFOLIOAllocation among six core asset classes Key driver of returns over the long term Approved by GIC BoardACTIVE PORTFOLIOGIC PORTFOLIO+Comprises overlay of active, skill-based strategies Adopted by GIC Management Overseen by GIC Investment Board=Represents actual exposures of GIC Portfolio Within risk limits set by Government19? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14MANAGING THE PORTFOLIOREFERENCE PORTFOLIO: PASSIVE MARKET INDEX The Reference Portfolio adopted comprises 65% global equities and 35% global bonds (65:35), a generally accepted passive alternative for a large global investor such as GIC. It is consistent with the Singapore Government’s mandate for GIC, to secure a reasonable rate of return above global inflation over the long term, without taking excessive risk. The proportion of equities versus bonds broadly determines how much of a decline in market value a portfolio could face in times of market stress: the greater the proportion of equities, the higher the decline. At the same time, the higher the proportion of bonds, the lower the projected return of the portfolio over the long term. For instance, historically, a 65:35 global portfolio experienced losses of 20% to 30% over rolling three-year periods during periods of market stress such as the Tech Bubble Crash (200103) and Global Financial Crisis (2008-09). However, these declines were not permanent. Over the past 50 years, the 65:35 global portfolio has managed good long-term returns despite the bouts of market stress. That said, the Reference Portfolio is not a short-term benchmark for GIC. We can only benefit from longterm investing if we are prepared to tolerate shortterm losses or underperformance relative to market indices from time to time. Rather than tracking the Reference Portfolio, GIC’s investment strategy is to invest in asset classes that deliver positive returns over the long term. We may also adopt a contrarian stance when markets are at extremes. Our strategies also imply deviations from the 65:35 global portfolio in the near term.POLICY PORTFOLIO: KEY INVESTMENT DRIVER The Policy Portfolio stands at the core of the investment framework. The GIC Board approves the Policy Portfolio, taking into consideration recommendations by GIC management. The Policy Portfolio aims to achieve superior returns vis-à-vis the Reference Portfolio through diversification and careful portfolio construction that takes into account the way different asset classes respond to various economic environments. Since 1 April 2013, the Policy Portfolio has been simplified from 13 asset classes to six core asset classes. The six asset classes are as follows: Developed Market Equities, Emerging Market Equities, Nominal Bonds and Cash, Inflation-linked Bonds, Private Equity and Real Estate. These asset classes represent the key systematic or market risks, and encapsulate the bulk of the risk and return potential of the GIC Portfolio. The Policy Portfolio is not intended to be adjusted frequently and in particular, not in response to market cycles. However, it may be reviewed from time to time to take into account fundamental, structural changes in the global investment environment, such as a secular shift in the expected risk and return of a particular asset class or geographical region. Adhering to a long-term Policy Portfolio enables GIC to take advantage of time-varying risk premia, and the main means by which we do this is through a disciplined rebalancing to the long-term Policy Portfolio. This involves systematically buying more of the assets that have fallen in value, and selling some of the assets that have risen in value to keep the asset mix steady over time. Numerous studies have shown that in the long run, a portfolio that is rebalanced regularly to its predefined target allocations tends to outperform a portfolio whose allocations are allowed to drift.20? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14MANAGING THE PORTFOLIO11 - 15% PRIVATE EQUITY 9 - 13% REAL ESTATE 4 - 6% INFLATIONLINKED BONDS 25 - 30% NOMINAL BONDS & CASH20 - 30% DEVELOPED MARKET EQUITIES15-20% EMERGING MARKET EQUITIESACTIVE PORTFOLIO: COMPRISES SKILL-BASED STRATEGIES The GIC Board approves the Policy Portfolio, taking into consideration recommendations by GIC management. It also provides the management latitude to adopt active investment strategies aimed at adding value to the Policy Portfolio. These active strategies are limited by a risk budget and stress loss limits set by the GIC Board. This overall risk budget is allocated among the active strategies by management. However, unlike the previous approach where active strategies were restricted to the narrow confines of individual asset classes, the revised approach allows strategies to be funded by a combination of asset classes. This effectively breaks down the asset class silos. The natural source of funding for all strategies is the sale of asset classes in the Policy Portfolio. The funding asset classes are chosen to reflect the risk characteristics to the active strategy. For example, strategies designed to outperform public equities arefunded from the corresponding public equity holdings in the Policy Portfolio. Assigning the appropriate funding asset class would be more challenging for strategies such as Credit or Infrastructure that do not have natural counterparts in the Policy Portfolio. Nevertheless, while the investments might appear different on the surface, their underlying risk and return drivers can be explained by the six core asset classes in the Policy Portfolio. For investments in credit instruments, it would be a combination o for infrastructure, a combination of real estate, bonds, and equities. In effect, an active strategy replaces a policy exposure with a value-adding strategy or investment opportunity. The sale of the funding assets represents an opportunity cost, which must be made up by the value-adding activity. To account for this appropriately, each strategy is assigned a cost of capital derived from the expected return of its funding assets plus other premia for additional risk undertaken. These skill-based active strategies must ultimately perform better than their cost of capital.21? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14MANAGING THE PORTFOLIOGOVERNANCE OF THE INVESTMENT FRAMEWORK The investment framework clearly defines the different risk and return drivers for GIC over the long term, and further clarifies the responsibilities of the GIC Board and Management. The Reference Portfolio reflects the Singapore Government’s risk appetite, while the GIC Board approves the Policy Portfolio which is expected to deliver superior returns vis-à-vis the Reference Portfolio over the long term. GIC management is given the discretion to add value within a risk budget and stress limit set by the GIC Board through the Active Portfolio which comprises active, skill-based strategies. The Investment Board (IB) provides additional and independent oversight on GIC’s active investment management and process. It comprises individuals drawn from the private sector, who collectively bring a wealth of experience in different types of investments in a range of geographies. One of the roles of the IB is to ensure that GIC invests in a sound and disciplined manner. Additionally, the IB ensures that GIC doesnot take on undue headline risk in our pursuit of good investment opportunities. As a large investor, GIC will inevitably have significant positions in certain companies. Special attention will be paid to large investments that go beyond the exposures as implied by the asset class benchmarks. The table below summarises the responsibilities within GIC under the investment framework. The investment framework enables GIC to fund strategies based on systematic risk factors, opportunity cost and other costs of capital, instead of allocation targets. Taken as a whole, the New Investment Framework capitalises on GIC’s strengths. These include the ability to take a long-term in capabilities in public and private markets and the potential to synergise these to invest in cross- presence in a a skilled and exp and a governance structure that distinguishes clearly the responsibilities of the GIC Board and management.Responsibility GIC Board Investment Strategies Committee Investment Board GIC Management Investment Teams Approves Policy Portfolio and active risk budget Reviews GIC management’s recommendations on Policy Portfolio and active risk budget Oversees GIC management’s active strategies Recommends Policy Portfolio and constructs Active Portfolio Add value through implementation of Policy Portfolio and active strategies22? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14MANAGING THE PORTFOLIOIMPLEMENTATION GIC invests in public markets, real estate and private equity in more than 40 countries. Our long-term orientation allows us to withstand periods of significant market volatility. Our patient capital allows us to benefit from holding investments that take longer to realise their potential. While we are open to investing in all countries outside Singapore, we do not invest in countries that are subject to United Nations Security Council sanctions. GIC exercises ownership rights in our investments to protect our financial interest. PUBLIC MARKETS GIC invests in publicly-traded markets, including public equities in both developed and emerging markets, absolute return strategies (hedge funds), fixed income, cash and currencies. It manages a well-diversified portfolio to produce sustained, superior risk-adjusted performance. Traditional asset class investments in equities and fixed income make up the bulk of the portfolio’s investments in public markets. EQUITIES GIC pursues both active and passive management strategies in equity investing. We have an established team of in-house research analysts and experienced portfolio managers. They conduct in-depth due diligence and research that enable us to identify undervalued stocks with the potential to generate good returns over the long term. Our investment professionals have a wide network of corporate and industry contacts with diverse insights on companies in the investment universe.FIXED INCOME Fixed income investments aim to generate steady returns, provide a liquidity reserve to support portfolio management activities, and enhance capital preservation through diversification. Our portfolio managers employ a range of investment strategies in managing fixed income investments including yield curve analysis, credit, interest-rate duration and currency management to add value to the portfolio. PRIVATE MARKETS Our allocation to alternative asset classes stems from their potential to generate high long-term real returns and their role to diversify the portfolio. Investments in the private markets offer higher returns to compensate for higher risk as these assets are less liquid and more difficult to trade. Real estate assets, in particular, also serve as a hedge against inflation. GIC’s long investment horizon puts us in a good position to exploit market inefficiencies through the active management of these assets. REAL ESTATE GIC is an early entrant among institutional investors in real estate. Investments include traditional private real estate (brick-and-mortar assets), public equities (such as real estate operating companies), real estate investment trusts and real estate-related debt instruments. The real estate assets span multiple property sectors, including of?ce, retail, residential, industrial and hospitality. Real estate investing is governed by guidelines covering countries and regions, property asset types and sectors to ensure the portfolio meets both investment and risk objectives. Assetspecific conditions and risk are among the factors that in?uence investment decisions. GIC actively23? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14MANAGING THE PORTFOLIOmanages the assets to generate income and enhance market value through tenant management, market positioning, leasing and capital improvements. In this team-based approach, an appropriate range of real estate and capital market skills is applied to each investment. PRIVATE EQUITY GIC’s private equity universe includes buyouts, venture capital and special situations such as mezzanine debt, distressed debt and secondary fund investments. We invest in companies directly and through funds. The direct investment programme is focused on taking minority equity positions and providing mezzanine financing in buyouts. Our funds strategy aims to identify and invest with leading private equity and venture capital funds globally, and grow with them in the long run. We have built up a network of over 100 active fund managers. The investment teams add value to the boards and management of the investee companies by providing advice and access to a global network of business links. Our feature article, Private Equity, elaborates on GIC’s strategies for this asset class. In Infrastructure, GIC’s primary strategy is to invest directly in operating infrastructure assets with a high degree of cash flow visibility and which provide a hedge against inflation. These include mature, lowto moderate-risk assets in developed markets, complemented by investments with higher growth potential in emerging markets. EXTERNAL MANAGERS GIC partners top-tier fund management institutions that offer access to opportunities, specialised capabilities, in-depth analysis and experience which complement our internal management capability.We invest in a variety of funds including real estate funds, private equity funds, bond funds, index funds and hedge funds. In addition to the portfolios managed within GIC, we give external fund managers discretionary mandates in a wide range of asset classes such as global ?xed income and global equities, while remaining fully accountable for overall performance of the portfolio. We consistently assess our external managers relative to expected returns, risks and guidelines. MANAGING PERFORMANCE Managers are fully accountable for the performance of their portfolios. Their decisions must comply with prescribed guidelines and limits of their Investment Mandate. We evaluate our performance in various ways: Whether we achieve a good rate of return above global inflation for the total portfolio, how the total portfolio performs relative to the Reference Portfolio how each investment professional or team performs against t and how our managers’ results compare with those of their peers in the industry. Our performance measurement is focused on longterm investment results, based on a disciplined and rigorous investment and risk management process. MANAGING RISK The Singapore Government, as owner of the funds, determines the risk tolerance which GIC works within to achieve the investment return objective. The ultimate outcome of an effective risk management framework is a risk-conscious culture that instils an ownership (of risk) mind-set and discipline in risk-taking. Identifying and managing risk is an integral part of management responsibility at all levels in GIC. The risk management framework sets the accountability and responsibility parameters for risk-taking. In addition to the Board and its Risk Committee, different bodies24? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14MANAGING THE PORTFOLIOand groups are specifically charged with the tasks of identifying, analysing, monitoring, reporting and managing of risks. That said, identifying and managing risk is the responsibility of all GIC employees. Our approach to risk management is three-pronged: Managing portfolio risk to ensure that risk taken is commensurate with the expected returns and consist managing process and infrastructure risk so that investment decisions
and managing people risk. MANAGING PORTFOLIO RISK GIC’s portfolio is managed based on the risk preferences expressed by the Singapore Government. The Policy and Active Portfolios are constructed with the Singapore Government’s long-term real return objective and its primary risk reference, an ex-ante stress loss requirement, in mind. Deviation of asset allocation exposure from policy benchmarks is constrained by GIC Board-approved operating bands and GIC Board-approved active risk budget. The operating bands around the policy portfolio’s target weights are applied and monitored by the independent risk function, the Risk and Performance Management Department. GIC management is given the discretion to deviate from the policy portfolio within an approved active risk budget. A cost of capital framework is implemented to set an appropriate performance hurdle for each active strategy that includes the cost of funding these strategies and a premia for additional risk undertaken. The active risk budget is also supplemented by a set of investment guidelines to ensure that the essence of the policy portfolio is preserved and to limit concentration risk. The Risk and Performance Management Department (RPMD) conducts regular monitoring of the strategiesto ensure adherence to the investment thesis and consistency with funding assumptions. In addition to the semi-annual review of strategies, RPMD will have regular dialogues with strategy teams to discuss risk and performance-related issues of the strategies. RPMD independently sets and monitors performance and risk review thresholds to highlight unusually large underperformance of the portfolio. It also highlights potential changes in risk-taking behaviour and inconsistencies with the stated risk and return assumptions. Information systems are used to monitor and evaluate risk criteria, trading limits and investment guidelines within each managed portfolio. Portfolio managers and senior management obtain timely feedback on the risk profiles of their investments through performance and risk attribution tools. A group-wide investment authorisation framework sets out the approving authorities for investments based on size, and subjects large investments to additional review by the IB. Investment teams in private market asset classes conduct extensive due diligence covering the market, physical, legal and financial aspects of the transactions, and the selection of investment partners, holding structures, and exit strategies. They manage the measurement and operational risks associated with the performance of private market assets via operational and financial controls. Stress tests are also conducted based on a variety of scenarios to determine how potential changes in market conditions and risk events may impact the portfolio. These scenarios include a combination of both historical and forward-looking scenarios. Investment and operations teams work closely with the Legal and Compliance Department to manage legal and regulatory compliance risks arising from the25? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14MANAGING THE PORTFOLIOgroup’s investment activities. The in-house legal team also works with external lawyers to address legal risks. MANAGING PROCESS & INFRASTRUCTURE RISK All investment and operations staff are required to identify, evaluate, manage and report risks in their own areas of responsibility, and to comply with established risk policies, guidelines, limits and procedures. New investment products or strategies are subject to a risk identification and assessment process conducted by a cross-functional group, so that risks associated with the new product or activity are identified and analysed before any new investment takes place. This process includes ensuring that the required people and infrastructure, including systems, procedures and controls, are in place to manage these risks. GIC adopts a strong control orientation in managing counterparty credit risk, trading only with financially sound and reputable counterparties. There is a stringent selection and approval process in place to appoint counterparties. We monitor our counterparty exposure against set limits and report counterparty profiles to senior management regularly. Other measures to mitigate credit risk include using netting agreements and programmes requiring counterparties to pledge collateral. We continuously monitor for key risk indicators including late transaction processing, late report releases, stale prices and system downtime. These indicators highlight potential risk areas that need to be addressed in a timely manner in order to mitigate the risk of loss resulting from possible slippages in GIC’s operations. Infrastructure, including technology and data, plays a critical role to enable effective investment and riskmanagement. Policies and procedures are established to safeguard the physical security and integrity of GIC’s technology and data assets. Our business continuity plan is tested and reviewed regularly to ensure that our procedures and infrastructure can support operations in the event of a business disruption. This enhances corporate resilience and safeguards the group’s operations. Throughout the year, internal and external auditors scrutinise all operations and business processes. Any deficiencies identified must be addressed within set time frames and reported to senior management. MANAGING PEOPLE RISK We require our staff to observe GIC’s code of ethics, maintain exemplary conduct, and comply with laws and regulations, including prohibitions against insider trading and other unlawful market conduct. Staff must protect confidential information and handle non-public material with due care. These guidelines are set out in our compliance manual, which is maintained by the Legal and Compliance Department. The manual also includes policies relating to the management of conflicts of interest, gifts and entertainment, personal investments, market conduct, anti-corruption and whistle-blowing, as well as disciplinary action regarding any breach. We provide regular training to all staff to keep them current with compliance requirements. The training also helps raise the awareness of operational risk. Staff receive training on exchange regulations relevant to their responsibilities. Furthermore, appointed staff conduct briefings for all relevant personnel on data protection policies and procedures.26? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14MANAGING THE PORTFOLIOConsistent with our long-term orientation, GIC’s remuneration policies and practices support and reinforce a prudent risk-taking culture, as well as recognise and reward our people on the basis ofsustainable results. People are at the heart of our business. Our PRIME values are the compass in our management of people, processes and portfolios. These values are included in our staff appraisals.27? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14F E AT U R E A R T I C L EP R I V AT E E Q U I T YOVERVIEW GIC deploys capital in areas where we can utilise our comparative advantages, in particular, a long investment horizon, global presence, as well as skilled and experienced teams. Private Equity (PE) exemplifies an asset class where we tap our advantages to reap excess returns from investments that require longer gestation periods to realise their potential. WHAT IS PRIVATE EQUITY Unlike public equities, PE entails investing in equity or equity-like instruments in companies which are not traded via organized exchanges. It also includes investments in publicly traded securities through privately structured deals. PE investments provide capital to companies at all stages of their life cycle, from start-ups through to mature companies, and in a range of situations such as corporate spin-outs, management buyouts and turnarounds. Well-known companies that have been financed by PE include Google, Facebook, Dell and Hilton Hotels. The key drivers of PE performance include: ?
Strong alignment of interest between investors and company management ?
Operational improvements to add value to companies ?
Ability to make strategic decisions without pressure of short-term share price concerns ?
Appropriate use of leverage to increase Return on Equity WHY GIC INVESTS IN PE GIC’s asset allocation strategy is based on a tradeoff between expected return and risk, with the goal of building a diversified portfolio to deliver good overall long-term real returns. PE offers diversification benefits to GIC as its return drivers are somewhat different from those of traditional asset classes. Consequently, PE occupies a distinct and important role in GIC’s portfolio. Investing in PE enables better long-term returns on our portfolio. PE offers the highest expected return, albeit with the highest risk, among the major asset classes (Chart 1). In part, this is to compensate investors for assuming illiquidity risk C the holding period of PE investments is typically three years or longer, and it is difficult to divest at short notice. The performance of PE deals can vary greatly, as the chart on industry returns (Chart 2) shows. Similar to other asset classes, performance can be impacted by global conditions such as the
financial crisis, although even in challenging years some investments still do well, compensating for those that underperform. A long-term investor like GIC can afford to ride through the higher volatility of PE in return for a higher expected long-term return. Investing in PE is therefore a higher-risk activity, but the strategy has worked well for GIC so far. Returns from the PE asset class since its introduction into the GIC Portfolio have exceeded returns from public equities.28? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14F E AT U R E A R T I C L EP R I V AT E E Q U I T YChart 1: 20-Year Expected Real Return and Volatility Assumptions of Asset ClassesHighEmerging Market EquitiesPrivate EquityDeveloped Market EquitiesExpected Real ReturnReal EstateNominal Bonds Inflation-linked Bonds CashLow LowExpected VolatilityHighChart 2: Internal Rate of Return of the Private Equity Industry for the Period 40%Median IRR30%20%10%0% 03 06 09 2010Top of bar represents 75th percentile Bottom of bar represents 25th percentileSource: Private iQ Global PE benchmark by Burgiss Note: Recent years are excluded as it is too early to tell their performance29? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14F E AT U R E A R T I C L EP R I V AT E E Q U I T YHOW WE INVEST IN PRIVATE EQUITY GIC began investing in PE in 1982, and is one of the largest and most established PE investors in the world today. While the bulk of our investments are in developed markets, particularly in North America and Europe, we have a substantial presence in emerging markets (Chart 3). Through local teams spread over seven offices on four continents, GIC has built a PE portfolio that includes investments in well-known global and local companies and PE funds. Investments are made both indirectly via funds and directly into companies. GIC currently has over 100 active relationships with PE fund managers in all regions of the world. We invest directly in companies, either alongside our fund managers or independently, and we have investments in well over 100 companies globally. GIC’s PE direct investments cut across multiple industry sectors, with a focus on financial services, business services, consumer, healthcare, technology / media / telecommunications (TMT) and natural resources (Chart 4). Our PE investments span a wide range of sub-asset classes within the industry. The largest proportion of the portfolio is invested in buyouts, which is broadly consistent with the rest of the PE industry (Chart 5). GIC’S PRIVATE EQUITY INVESTMENT STRATEGY Since returns from PE are volatile, superior returns are available only to the best PE fund managers and investors. GIC seeks top-quartile fund managers across the world to invest inand co-invest with, and has built relationships with a number of established managers. At the same time, we have been, and continue seeding promising new funds. While GIC works alongside knowledgeable investment partners, we have also built the capabilities to source and lead deals independently through our global network, supported by our local investment teams around the world. Having patient capital, cross-asset class capabilities, and a global presence with experienced local teams have set GIC apart from other institutional investors and helped us to gain preferred access to good investment opportunities. We follow a robust and rigorous investment process throughout the life of our investments, from deal origination, due diligence, investment decision-making, deal execution, monitoring, through to exit. RISK MANAGEMENT PE investments share risks with their public market counterparts, but are also exposed to risks specific to the asset class. For instance, PE can carry high concentration and idiosyncratic risk. Investments also often involve more financial leverage. Our PE teams therefore pay close attention to risk control and exercise discipline in portfolio construction. The aim is to construct a non-cyclical portfolio that is diversified by type of investments, geographical regions, industries, as well as time (vintage year1 diversification). Time-diversification is especially important to avoid pro-cyclical investing and overexposure to periods where market valuations may be high.1
Vintage year is the year in which an investment is made.30? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14F E AT U R E A R T I C L EP R I V AT E E Q U I T YOTHER EMERGING MARKETS ASIA DEVELOPED MARKETS ASIA EMERGING MARKETSChart 3: Last 10 Years’ Private Equity Investments by RegionEUROPE NORTH AMERICAChart 4: Last 10 Years’ Direct Investments by SectorTMTBUSINESS SERVICESCONSUMER OTHERS NATURAL RESOURCES INDUSTRIALS FINANCIAL SERVICESHEALTHCARESECONDARIES Chart 5: Last 10 Years’ Private Equity Investments by Sub-Asset Class CREDIT & DISTRESSED GROWTH VENTURE CAPITAL SMALL BUYOUTOTHER LARGE BUYOUTMID BUYOUT31? REPORT ON THE MANAGEMENT OF THE GOVERNMENT’S PORTFOLIO FOR THE YEAR 2013/14GOVERNANCEThe Ministry of Finance (MOF), representing the Government, sets the investment objective, risk parameters and investment horizon for the portfolio. It ensures that a competent board of directors is in place. The GIC Board assumes responsibility for asset allocation policy and the overall performance of the portfolio. GIC’s Management is responsible for formulating and executing investment strategies and for individual investments. The Management also reports to MOF on the risk and performance of the portfolio.GOVERNANCEINTRODUCTION GIC was incorporated in 1981 under the Singapore Companies Act and is wholly owned by the Government of Singapore. It was set up with the sole purpose of managing Singapore’s foreign reserves. GIC invests well over US$100 billion internationally in a wide range of asset classes and instruments. As a rule, GIC invests outside Singapore. SOURCE AND PURPOSE OF FUNDS GIC is a fund manager for the Government, and does not own the assets that it manages. The sources of the Government’s assets, as stated by the MOF, include proceeds from issuance of Singapore Government Securitie