AP 2–SECOND SWEDISH NATIONAL PENSION FUND … · COrPOrATEGOVErNANCErEPOrT2007-2008 3 WelcometotheSecondAPFund’sCorporateGovernancereport In recent years, I have noticed increased

CORPORATE REPORTGOVER

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A new Generation steps forward

Pure gold – but at what cost?

AP2 – SECOND SWEDISH NATIONAL PENSION FUND

USD 15000 billioncomes to Gothenburg

Why Swedes vote so littlein foreign companies

07/08JULY 1 2007 – JUNE 30 2008

2 COrPOrATE GOVErNANCE rEPOrT 2007-2008

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Committed to a better climate. For investment too.“Once you’ve become aware of the changes needed to address

the climate problem, it’s difficult to revert to old ways.”


State + Capital“Critics of SWFs are mainly concerned about protecting national interests

- they say they are averse to selling off national treasures to funds whose aims are unclearand which in many cases are governed and controlled by undemocratic governments.”

“Special rules for SWFs – a step in the wrong direction”“Transparency is crucial to the creation of a uniform and results-based organization, where

every member of staff fully understands the overall objective of its business activities.”

Pure gold - but at what cost?“To be able to engage in meaningful dialogue with the mining industry andmake demands that really lead to sustainable development for employees,

the environment and the share price, you’re going to need a lot of know-how.”

Why Swedes vote so little in foreign companies“Voting is a low-premium insurance, especially given the fact that the Swedish

National Pension Funds own foreign equities worth hundreds of billions of kronor.”

Second AP Fund’s governance activities 2007/2008Voting at Swedish AGMs • Voting at foreign AGMs • Fund´s participation in nominating

committees • Fund positive to expanded use of Code for Corporate GovernanceBoard Composition: Women • Protection of shareholders’ rights • Initiative • Excluded companies

USD 15 000 billion comes to Gothenburg“A worst scenario is to have people who invest real money in equities and who

then declare they have no intention of exercising their rights as owners.”

In autumn 2007, the Second AP Fund signed a portfolio management agreement with theglobal equity fund Generation. Investments are based on a fundamental analysis in which

sustainability issues are awarded considerable significance. The Second AP Fund hastalked to David Blood, earlier president of Goldman Sachs’ global capital management.

COrPOrATE GOVErNANCE rEPOrT 2007-2008 3

Welcome to the Second AP Fund’s Corporate Governance report

In recent years, I have noticed increased interest in the way large national pension funds think andact with respect to governance issues. This is a positive development.

This said, there are number of challenges we must address if we are to succeed in disseminatingquality information to a broader public. It is difficult to present complex issues in the media, due toa tendency to focus on contention. Another obstacle is that many important questions are resolvedbehind closed doors, which sometimes creates an information vacuum that can generate misleadingrumours or silence.

We are therefore keen to contribute to the creation of a forum dedicated to a broader discussion,partly through publication of the report that you now hold in your hand.

This edition addresses a number of important issues. Some of these affect the financial marketson which we operate. One such is the growth of large sovereign funds and trends relating to theexercise of voting rights in foreign holdings. Other issues are directly related to industries in whichwe invest, issues such as the environmental impact of mining.

At the same time, I should also like to draw attention to one of the most important global issuesof 2008, namely the climate issue. The UN Climate Committee claims that the emissions of green-house gases must be halved by 2050 to prevent global warming.

How we are to achieve this is expected to be resolved next autumn in Copenhagen, when decisionmakers from all over the world will gather to discuss the next move in the process initiated by thesignature of the Kyoto Protocol.

There is already talk of expanding the system for trading carbon emission rights as a way to reducepollution. The result of the conference could prove decisive in determining the way companies andindustries are rated, thereby affecting the composition of the Second AP Fund’s portfolio. It is there-fore important that one of the things we learn is how different carbon emission credit systems workand what their impact will be on our portfolio – a process in which we are currently engaged andwhich we hope to talk more about in future.

Eva HalvarssonChief Executive Officer

From Kyoto to Copenhagen



In conjunction with the conference, theICGN declared its response to the phen-omenon: sovereign wealth funds play asignificant role on international financialmarkets. They pursue the same long-termobjectives as traditional long-term institu-tional investors such as pension fundsand insurance companies, and shouldtherefore be treated in the samemanner, noted Peter Montagnon,chairman of the ICGN.

The imposition of strictureson a specific group of investorscould have a damaging effect

and the organization is neg-ative to the idea, due in part

to the fact that most coun-tries already implement

the restrictions needed to protect strategi-cally important interests.

Increased awareness At the same time,ICGN and its members are keen to encou-rage a closer dialogue with SWFs, tocreate greater awareness with respect tothe corporate governance issue.

The idea is that SWFs, together withother established institutions such as theSecond AP Fund, can help to ensure that

capital markets function efficiently andthat companies around the world are or-ganized in a way to generate sustainablelong-term returns.

The experience of ICGN’s members isthat institutions that practise responsiblecorporate governance, as by exercisingtheir voting rights, gain access to a grea-

ter number of investment arenas. Thiseventually gives them greater influenceand increases the opportunity of agood return.

Several SWFs are passive owners.The ICGN looks forward to a time whenSWFs will also exercise their voting

rights to positively influence corporateconduct.

“A worst scenario is to have people

U$D 15000 billionIn early March 2008, the Second AP Fund played host to the International Corporate Governance Network/ICGN’shalf-yearly conference. Representatives of the world’s largest institutional investors came to Gothenburg to exchangethoughts on, among other things, SWFs (Sovereign Wealth Funds), and to discuss their impact on internationalcapital markets.

COMES TO GOTHENBURG

“A WOrST SCENArIO IS TO HAVE PEOPLEWHO INVEST rEAL MONEY IN EQUITIES AND

WHO THEN DECLArE THEY HAVE NO INTENTIONOF EXErCISING THEIr rIGHTS AS OWNErS.”

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8 who invest real money in equities andwho then declare they have no intentionof exercising their rights as owners,” saysRobert A.G. Monks, a pioneer amongshare-rights activists attending the con-ference, who now chairs the Governancefor Owners Group LLP, in London.

Hoping for endorsement of ICGN state-ment Responsible governance alsoinvolves a high degree of transparencyconcerning investment policies and mustdemonstrate that investment decisionsare based on the broad objective ofcreating an appropriate return within apredetermined period.

This is why the ICGN recommends thatSWFs embrace the organization’s State-ment on Shareholder Responsibilities,which was approved at the 2007 AGM.

representatives of the SWFs clarifiedtheir viewpoint Representatives of theSWFs who attended the conference sta-ted that their investment decisions had noulterior political motives and that they feltthat SWFs created no imbalances in capi-tal markets.

“What you have to ask yourself iswhether the actions of SWFs have causedchaos on any financial markets? Areyou sure that the question itself isn’tpolitically motivated?” asked MahmoudAl-Kanderi, director of the Kuwait Invest-ment Authority, KIA, when questionedby reporters during the conference.

“Our investments have no politicalmotive – they are based strictly oncommercial priorities,” he said.

Gao Xiging, president of the ChineseInvestment Corporation, CIC, noted thatChina’s decision to invest abroad was atleast partially due to politicians in theUSA and the EU.

“We were pressured by politicians inthe USA and the EU to strengthen ourcurrency, so we decided to employ someof our currency reserves and investabroad. Their attitude was ‘Yes – pleasedo it!’ Then, once we had carried out the


Photographer:ErikYngvesson

Per Lekevall, Swedish Corporate Governance Board, explained the benefits of Swedish corporategovernance.

Anne Kvam (NBIM), Gao Xiging (from China’s CIC) and Mahmoud Al-Kanderi (KIA) explainhow it works.

Sir David Tweedie, chairman of the International Accounting Standards Board.

Anne Simpson, president of the International Corporate Governance Network, led the debateon Sovereign Wealth Funds.


business deals, the politicians came backand said ‘No, no, we’re afraid of you. Wesuspect your evil intentions’.”

He also noted that the lack of transpa-rency derived from a desire to avoidunnecessary attention. No other motivesexist. Like KIA, they tend to adopt apassive attitude to their holdings.

“We have absolutely no intention ofexercising our voting rights or of acquiringseats on the boards of companies inwhich we invest, and our interests in thesecompanies are very long-term. We haveno wish to be anything but a responsibleinvestor,” Gao Xiging stated.

rescued the US economy once beforeChinese investors, and their money, werea major factor in helping American invest-ment banks that needed new capitalduring the credit crunch. ChristopherAilman, president of CalSTRS, the secondlargest pension fund in the USA, claimedthat this is not unique – and that theAmerican economy has always survivedthanks to foreign investment and capital.In his opinion, the disagreement amongpoliticians stems from ignorance.

“What we see in Congress is a fear ofthe unknown. So this situation is likely tocontinue for a time. I just hope it will bebrief.”

The world’s largest corporate governance networkThe International Corporate Governance Network, ICGN, is the world’s largest corporategovernance organization. ICGN, established in 1995, comprises some 500 membersfrom 40 countries, representing total assets under management of USD 15 000 billion.The organization is dedicated to promoting favourable development in corporate gover-nance, based on an international perspective.

Carl Rosén joins the ICGN boardIn conjunction with the ICGN conference in South Korea in June 2008, Carl Rosén,who heads Corporate Governance at the Second AP Fund, was voted onto the ICGNboard. The eleven other members of the board represent pension funds and advisersfrom all over the world.

Carl Rosén from the Second AP fund leads the debate on voting rights.

What are Sovereign Wealth Funds?Sovereign Wealth Funds is a generic term for state-owned investment funds in countriesthat normally enjoy a substantial surplus in their trade balances. Typically, such coun-tries are major energy exporters, such as Russia and many parts of the Middle East.

In actual fact, about 62 percent of all SWF capital is oil or gas related. The remain-ing capital comes from nations such as China, where in many cases the trade surplusderives from cost benefits in the export industry.

It is thought that the state investment funds manage capital assets amountingto an approximate combined value of USD 3 000 billion. This corresponds to about1.5 percent of the world’s total assets.

A forecast published by Morgan Stanley predicts that, in ten years, the largestSWFs will have a combined capital of USD 13 000 billion, corresponding to 5 percentof combined global capital.

For more background on SWFs, turn to page 24.

Photographer:ErikYngvesson

VOTING AT SWEDISH AGMsDuring the period July 1 2007 to June 302008, the Second AP Fund has exercisedits voting rights at the annual generalmeetings (AGMs) of 51 Swedish publiclyquoted companies. In two instances,the Fund voted against board proposalspresented at the AGM. The Fund votedagainst discharging the outgoing board ofCarnegie from responsibility for their ad-ministration. This was primarily intendedas a means to ‘keep the doors open’for possible future action for damagesagainst members of the old board. Thenew board has now studied the feasibilityof conducting a successful claim fordamages against the old board andconcluded that such a claim would notsucceed. It is good that the new boardhas put the issue to the test. It is alsogood that, by withdrawing its appealagainst the Swedish Financial Supervisory

Ron Nickel / IBL Bildbyrå

Authority (FI), the board has acceptedthe supervisory authority’s decision.

The Second AP Fund voted againstthe incentive system operated by LundinPetroleum, since it lacked any performance-related requirement, and was not treatedas a separate item in the notice conve-ning the general meeting.

VOTING AT FOrEIGN AGMsThe Second AP Fund has exercised itsvoting rights at the AGMs of 64 foreignquoted companies during the period. Theselection was made on the basis of thesize of the holding, in connection with thework of the Ethical Council of the SwedishNational Pension Funds, or in collabora-tion with international investors. At mostof these meetings, the Fund either votedagainst the boards’ proposals or forproposals submitted by shareholders.This is a consequence of the fact that the

selection focused on companies in whicha number of shortcomings had beendetected.

Where the Fund voted against aproposal, the issue was shareholderrights. Concerning the right to elect theboard according to the majority principle,the Fund has collaborated with theAmerican pension fund CalPERS. On theissue of expanded information and theopportunity to vote on remunerationmatters, the Fund has cooperated withAmerica’s TIAA-CREF. With respect to theintroduction of more detailed coverageof environmental issues, the Fund hasworked with the American investor networkCERES. Where a board has proposed aCEO who also chairs the company, theFund has voted against, in line withthe view of shareholders’ rights subscribedto by the Swedish market.

Second AP Fund’s governance



FUND’S PArTICIPATION IN NOMINATINGCOMMITTEES 2007-2008The Fund has been represented on thenominating committees of five compa-nies: Biotage (chairman), Haldex, Fabege,Meda and Oriflame.

FUND POSITIVE TO EXPANDED USE OFCODE FOr COrPOrATE GOVErNANCEThe new Swedish Code for Corporate Go-vernance formally came into effect on July1 2005, although the first results werenot apparent until publication of the an-nual and corporate governance reports ofSwedish companies at the beginning of2006. The Swedish Corporate GovernanceBoard monitors observation of the Codeon an ongoing basis, and in most cases,respect for the Code has been good. Criti-cism from companies about excessive bu-reaucracy has declined, and severalcompanies have elected to explain why

they do not observe the Code, in line withits observe-or-explain principles.

For the Second AP Fund and othermajor investors, one great advantage ofthe Code has been the finalization of rou-tines governing the makeup of nominationcommittees, the way board performanceis evaluated and reporting routines rela-ting to the work of nominating commit-tees. This simplifies matters and reducesunnecessary discussion of the legal for-malities, as well as enhancing the qualityof the work performed by nominatingcommittees.

Given the result, it was only naturalthat the Swedish Corporate GovernanceBoard should propose that the Codeshould embrace all publicly quoted com-panies by 2009. This has received a posi-tive response from most market players,even though it may place new demandson many institutional investors, requiring

them to provide representatives willing toserve on nominating committees. Thereply submitted by the Second AP Fundendorsed the Swedish Corporate Gover-nance Board’s proposal.

BOArD COMPOSITION: WOMENFor the first time in ten years, the trend ofa growing number of women on corporateboards has been broken. According to theSecond AP Fund’s index, the proportion ofwomen on corporate boards declinedfrom 19.3 to 18.6 percent. The proportionof women in executive management posi-tions remained unchanged at just under13 percent.

During the autumn, the Fund plans toinitiate a dialogue with companies (nomi-nating committees and managements) invarious industries that feature the lowestproportion of women in their executivemanagements and on their boards.

Jiri Rezac / Gamma / IBL Bildbyrå

activities 2007/2008

PrOTECTION OF SHArEHOLDErS’rIGHTS:

1. Review of takeover regulationsin SwedenThe Swedish Industry and CommerceStock Exchange Committee (NBK),which administers and develops thetakeover rules covered by Swedish self-regulation, has initiated a review of therules in 2008. The Second AP Fundparticipates in a reference group that iscooperating with NBK on this issue.

2. Possibility to nominate board membersin the USATraditionally, shareholders’ rights in theUSA have been weak compared tomany other countries. Among otherthings, shareholders have in practicelacked any possibility of nominatingtheir own board members. Many be-lieve that this is part of the explanationfor the high levels of remuneration inAmerican companies, something thathas even spread to non-American com-panies. In autumn 2006, the Nor-wegian Government Pension Fund,Britain’s Hermes, Holland’s APG and

PGGM, all of which are among Europe’slargest pension funds, decided to writea joint letter to America’s SEC (Securi-ties and Exchange Commission) to askthat these regulations be reformed, togrant shareholders the right to nomi-nate their own board members. Swe-den’s Second and Third NationalPension Funds have sent similar letters.

In November 2007, the Second APFund participated in a conference inNew York that highlighted this issue.After the conference, the SEC proposalsfor new regulations were withdrawn, andthe issue is now unlikely to be addres-sed prior to the election of a new USpresident.

3. Shareholder rights on the Asian marketsThe focus of economic activity is shif-ting towards Asia. Consequently, anever greater share of the global index isgoing to comprise Asian shares. It istherefore also likely that the Second APFund will have a higher share of itsportfolios invested in these markets.

Traditionally, protection for minorityshareholders has been fairly minimalon many of the Asian markets. It is

therefore important that investors fromother parts of the world seek to protecttheir investments by encouragingimprovements in the sphere of share-holder rights.

The Fund was invited to speakabout corporate governance issues bythe Chinese National Pension Fund,and in concert with other major institu-tional investors has also pushed to im-prove the possibility of voting at AGMsin Singapore.

At the ICGN annual conference inJune 2008 in Seoul, South Korea, oneof the conclusions was that the reintro-duction of “poison pills” by a number ofcompanies, with a view to preventinghostile takeovers, has worsened ratherthan improved the situation on theJapanese market.

INITIATIVE� The Ethical Council of the Swedish

National Pension Funds was establishedon January 1 2007 and published itsfirst annual report in the spring of2008. The Ethical Council is engaged inmonitoring and analysing the portfoliosof the First to Fourth AP Funds, to


Bassignac Gilles / Gamma / IBL Bildbyrå Dan Guravich / PhotoResearchers / IBL Bildbyrå


ensure that the companies in whichthey invest are not involved in infringe-ments of international conventionsto which Sweden is a signatory. TheCommittee has established routinesfor monitoring all holdings, selecting10-15 companies for placement on a‘dialogue list’, in cases where the Fundsbelieve it will be possible to exert in-fluence on the companies, encouragingthem to institute new routines that canprevent future incidents or infringe-ments of conventions.

The companies on the list are publicand the report may be downloadedfrom the Second AP Fund’s website atwww.ap2.se. During November 2007,the Ethical Council carried out a comp-rehensive study visit in China, with theemphasis on environmental and labourrights issues. During 2008, the SecondAP Fund chairs the Ethical Council.

� In 2006, the Second AP Fund, togetherwith some 30 other major fund mana-gers, were founding signatories of theUnited Nation’s Principles for Respon-sible Investment (PRI). The extent towhich these Principles have since been

observed was monitored during 2008and published on the PRI website.

The Ethical Council of the AP Fundsalso used the PRI information forum.

� The Second AP Fund has also participa-ted in the Carbon Disclosure Project, aninitiative adopted by some 100 majorfund managers, who demand that theworld’s largest publicly quoted compa-nies take a stand on a number of is-sues pertaining to the greenhouseeffect. The contents of the reports fromthe Carbon Disclosure Project form partof an internal project that during 2008analysed the financial effects on theFund’s portfolio of the various possibleconsequences arising from continuednegotiations in connection with theKyoto Protocol.

� The Second AP Fund is one of the firstinvestors in the world to insist that theprivate equity funds in which it investsshall subscribe to the United Nations’Global Compact principles. These areten principles that, among other things,address areas such as human rights,labour standards, the environment and

anti-corruption measures.

� The Second AP Fund is a member ofthe European Corporate Governance In-stitute in Brussels and the SwedishSNS Corporate Governance Network.

� In autumn 2007, the Göteborg Awardfor Sustainable Development, of whichthe Second AP Fund is a sponsor, waspresented to Al Gore.

EXCLUDED COMPANIESWal-Mart and Singapore Technologies aretwo companies that have already beenexcluded from the Second AP Fund’s in-vestment universe.

In September 2008, the Fund exclu-ded nine companies that market clusterbombs, in contravention of the conventionbanning cluster bombs, which Swedensupports. These nine companies are Alli-ant Techsystems, Gencorp, General Dyna-mics, Hanwha, L-3 Communications,Lockheed Martin, Poongsan, Raytheonand Textron.

Gamma / IBL Bildbyrå Morgan David de Lossy / IBL Bildbyrå

In Sweden, we are used to having well de-fined owners, many of whom exercise anactive responsibility in publicly quotedcompanies. At the start of 2006, 265 of295 of the principal owners of quotedcompanies in Sweden controlled morethan 10 percent of the voting rights andcapital. The remaining 30 companies wereclassified as ‘ownerless’. This is not thesituation on many foreign stock markets.In the USA, just a few percentage units (oreven less) of the voting rights and totalcapital may be enough to qualify as amajor investor in many listed companies.

‘Ownerless’ companies spawn more op-tions programmes A clear problem with‘ownerless’ companies is that they riskcreating a disproportionate power shift

from owner to management. According tothe agent theory, this power shift can leadto decisions that favour executive man-agement, but which may not be in linewith the long-term owner’s desires. Thereis good reason to give this agent theorycredence. At least if one studies the linkbetween ownership concentration and theincidence of options programmes for topmanagement. A thesis presented at LundUniversity in 2004, based on a study ofthe 31 companies possessing the lowestownership concentration on the Stock-holm Stock Exchange, demonstrates thatthe incidence of generous options pro-grammes for top management in ‘owner-less’ companies is significantly higherthan for companies with a clearly definedprincipal owner.

Obvious impact in the US If you alsotake a look at remuneration decisions inAmerican quoted companies in connec-tion with the market’s hysteria over the In-ternet, around the turn of the millennium,the impact is even more obvious. At thetime, the top managements and other

employees of the 1200 largest quotedcompanies in the USA held options val-ued at more than 10 percent of total cap-ital. It is hardly likely that this transfer ofpower and money would have been pos-sible if the US stock market had featureda larger number of principal owners. Ornot on the same scale, anyway.

They used to vote with their feet Seenfrom a historical perspective, major insti-tutional owners have chosen to ‘vote withtheir feet’, i.e. sell their holdings, whendissatisfied with the management of aforeign company. This approach was justi-fied by the argument that it was far toocostly to involve personnel in the type ofcorporate governance that required theactive employment of voting rights.

Trend towards increased voting by insti-tutions In recent years, however, increa-sing numbers of investors have hadsecond thoughts. The greatest changeshave been seen abroad. According toRiskMetrics, almost 45 percent of theworld’s total combined capital comesfrom the USA, Great Britain and the Bene-lux countries, where the exercise of votingrights in foreign companies has becomerelatively common. Sweden still has someway to go in this respect, even though


The Second AP Fund chooses to utilize its owner status to vote. During 2007-2008,the Fund exercised its voting rights in 64 foreign holdings, via proxy.

“For us, it is self-evident that we should try to influence our holdings in a manner that we be-lieve will generate better long-term returns,” states Carl Rosén, who heads Corporate Gover-nance at the Second AP Fund. With holdings in more than 2 200 foreign companies, theFund exercised its voting rights at 64 AGMs. In this context, the Second AP Fund concentrateson companies with problems. It cooperates with foreign investors and exercises its votingrights electronically, by proxy. See the report on page 8.

The Second AP Fund does it this way

Why Swedes vote so little in foreign

Few Swedish investors exercise their voting rights in foreign holdings.This behaviour costs more than might appear. The fact is that many large

foreign companies lack clearly defined owners. This allows powerto be shifted to their executive managements – raising the risk of

short-term policies devoted to enriching company executives,rather than long-term policies geared to improving their owners’ profits.


there are exceptions such as the SecondAP Fund, which exercises its voting rightsin a limited number of foreign holdings(see box on page 12).

Some of the largest institutional inve-stors in the world, such as America’s Cal-PERS and Norway’s NBIM (Norway’s Bank

Investment Management) have chosen togo considerably further than the SecondAP Fund, and exercise their voting rightsin the majority of their investments. Thereare even types of savings where the exer-cise of voting rights in all holdings is sta-tutory, domestic and foreign. One suchexample in the USA is the corporatefunds established as ‘employee benefitplans’, where the exercise of voting rightsin all foreign investments is statutory.

Foreign investors more accustomedThere may be several reasons why foreigninvestors have reacted earlier than theirSwedish counterparts when it comes toexercising voting rights in internationalholdings. One reason may be that foreigninvestors are used to the lack of clearlydefined principals on their domestic mar-kets, making them more alert to the pro-blems that can arise and giving themmore experience of how to deal with them.

Media interest has an impact This deve-lopment is the result of multiple influen-ces, of course. Media interest is one suchfactor, another is the rankings publishedby market analysts. The reason is simple:few funds wish to be highlighted as bot-tom of the class in terms of their willing-ness to vote. To this is added political

pressure. Both national and internationalauthorities and organisations are strivingtowards making the funds’ voting policiespublic. There are even strictly technicalreasons for investors to adopt more activevoting policies. Many institutions follow in-vestment directives that require a long-term approach, a broad spread and whichplace limits on the amount of stockowned in individual companies – toachieve a good risk-adjusted return onthe portfolio. In practice, these directivesmay result in a major institutional investorholding joint interests in all the compa-nies forming a specific index. A sweepingdecision to dispose of all holdings whendissatisfied with management’s actionscan narrow the portfolio’s spread and in-crease risk. In such a situation, it may bebetter to retain the holdings and try toexert pressure on the company to adopt amore favourable long-term policy by,among other things, exercising the avail-able voting rights.

And since the funds are normally solarge that it becomes difficult to sell evena ‘small’ holding without depressing theshare price, there is a limit as to manyhow times one can ‘vote with one’s feet’ incompanies, before the costs of sellingsuch holdings outweigh those of stayingin and trying to influence the company ina more favourable direction – by exerci-sing one’s voting rights.

reduced costs of voting Moreover, thefact is that these days, the costs of moni-toring one’s interests and voting can bekept down by employing information tech-nology, through inter-fund collaborationand by using proxies. “Voting is a low-pre-mium insurance, especially given the factthat the Swedish National Pension Fundsown foreign equities worth hundreds ofbillions of kronor,” notes Carl Rosén, whoheads Corporate Governance at the Se-cond AP Fund.

n companies

“VOTING IS A LOW-PrEMIUM INSUrANCE, ESPECIALLYGIVEN THE FACT THAT THE SWEDISH NATIONAL PENSION FUNDS OWN

FOrEIGN EQUITIES WOrTH HUNDrEDS OF BILLIONS OF krONOr”


“TO BE ABLE TO ENGAGE IN MEANINGFUL DIALOGUE AND MAkE DEMANDSTHAT rEALLY LEAD TO SUSTAINABLE DEVELOPMENT FOr EMPLOYEES, THE ENVIrONMENT

AND THE SHArE PrICE, YOU’rE GOING TO NEED A LOT OF kNOW-HOW.”

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The mining industry features more or less all youcould possibly wish for to fill every single chapterof a blockbusting bestseller, such as hardworkingentrepreneurs who stake everything and grit theirteeth when faced by overwhelming odds. Somesucceed, find the mother lode and are whiskedaway to a life of indescribable wealth. For others,the end of the story is dramatically reversed. Thisis the grim destiny embraced by all those minersinvolved in serious accidents, and local inhabi-tants living near mines that can damage their en-

vironment for generations to come.Because of the inherent drama of the story,

the media is constantly on the lookout for news ofwinners, losers – and sinners who can be paradedbefore an insatiable public.

There have been plenty of eye-catching head-lines in recent years. Most often, they highlightserious mining accidents, dangerous workingconditions and environmental issues. In additionto the physical harm caused to those working inor living close to mines, such negative factors can

–but at what cost?PURE GOLD

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Many mining companies have attracted highly critical headlines in recent years. These mediareports have led responsible shareholders to demand improvements. However, to demand theright conditions you need to have the right knowledge, which means some serious digging.

Kersti Karltop, a doctoral student in environmental systems analysis, at Chalmers Instituteof Technology in Gothenburg, is well aware of this. She has recently completed a report forthe Ethical Council, commissioned by the Second AP Fund, addressing the mining industry’simpact on the environment.


“IT WAS A rEAL EYE-OPENEr TO SEE HOW MANY DIFFErENTPrOCESSES ArE INVOLVED AND THE HUGE VArIETY OF

ENVIrONMENTAL PrOBLEMS THEY CAN CAUSE – AND THATTHEY CAN HAVE SUCH SErIOUS LONG-TErM CONSEQUENCES.”


also erode share value in the longer term.

Shareholders’ tone sharpens Both as-pects are stiffening the resolve of respon-sible shareholders to push for change.One such group is the Ethical Council ofSweden’s First, Second, Third and FourthAP Funds.

However, to be able to engage in mean-ingful dialogue and make demands thatreally lead to sustainable development foremployees, the environment and theshare price, you’re going to need a lot ofknow-how.

“This is a highly complex industry. Justfor starters, there is a bewildering variety ofprocesses for mining and dressing the pro-duct, as well as different ways of storingthe environmentally dangerous waste gene-rated. The environmental problems can be-come extremely comprehensive if there areweaknesses in the company’s routines formanaging different processes or if an acci-dent occurs,” states Kersti Karltorp.

Charting the environmental dangers Thisis why, on behalf of the Ethical Council,she has conducted an exhaustive surveycovering virtually every process, from

prospecting to dressing and the treatmentof harmful waste generated. This hasinvolved a considerable amount of work,which is probably the main reason noinstitutional investor has done anythinglike it before.

“It was a real eye-opener to see howmany different processes are involved andthe huge variety of environmental problemsthey can cause – and that they can havesuch serious long-term consequences.”

“The most obvious example is thewaste product generated from dressingsulphide ore, commonly referred to asdressing sand. This sludge-like wasteproduct poses the greatest environmentalproblem in mining operations. If thesludge is allowed to interact with air andwater, this initiates a chain chemical reac-tion which is difficult to stop, releasinglarge quantities of sulphuric acid andheavy metals – one consequence beingthe elimination of marine organisms fora long time ahead.”

Could prove very costly “The risks meanthat the demands placed on waste man-agement are increasingly stringent.Research has already demonstrated that

certain types of waste must be storedsecurely for thousands of years, to avoidenvironmental damage.”

The problem is that few businessplans and interim reports address a time-scale of this sort. Naturally, the risk ofsuch short-sighted thinking is that it canlead to huge costs in the long run. Andeven short-term too. This is somethingthat Swedish mining company Bolidenhas become all too well aware of, sincethe accident in Los Frailes, Spain, in 1998.The walls of a settling pond collapsed andsome seven million cubic meters of sandand water ran out into a river delta.

This type of environmental disaster iswhat the Second AP Fund and fellowmembers of the Ethical Council wish toprevent, by participating in and activelycontributing to sustainable development.

“Environmental impact of the mining industry”surveys the ways in which common processes formining, dressing, waste management and subse-quent site sanitation impact on the environment.

The report has been prepared by the SecondAP Fund on behalf of the Ethical Council of theSwedish National Pension Funds. Its primarypurpose is to establish a broad knowledge baseprior to continuation of the Committee’s dialoguewith selected mining companies.

The report can be downloaded from www.ap2.se

The Report in brief Impact of heavy metals on healthElement Health risk

Antimony Heart disease, skin afflictions

Arsenic Cancer

Lead Brain damage, convulsions, behaviour disorders, death

Cadmium Heart and vascular disease, high blood pressure, brittleness ofthe bones, kidney disease, fibrosis of the lung, probably cancer

Copper Liver damage

Quicksilver Nerve damage, death

Magnesium Nerve damage

Nickel Allergies, lung cancer


Up until the end of 2006, the First toFourth AP Funds had dealt independentlywith ethical and environmental issues. Thecommon denominator linking the fourfunds was not simply that this work wasbased on international conventions, butthe joint appreciation of dialogue as avital instrument in achieving change andenhanced awareness of ethical and envi-ronmental issues.

The Ethical Council comprises a per-

manent representative from each fund,with the right to co-opt an additionaldeputy. The chair, which rotates betweenthe funds, was held by the First AP Fundin 2007, passing to the Second AP Fundin 2008.

Collaboration within the Ethical Coun-cil ensures that the funds’ work in thissphere is conducted more efficiently,sometimes expressed through an in-creased number of corporate dialogues.

A united committee also makes anattractive partner for other internationalinvestors who subscribe to a similaragenda with respect to ethics and theenvironment, further improving the likeli-hood of being able to persuade compa-nies to introduce positive changes.

Read more about the Ethical Counciland the companies it engages in dialoguein the 2007 Annual Report. It can befound at www.ap2.se

ETHICAL COUNCILpromotes a moreeffective dialogue

The Ethical Council represents a coalition between the First, Second, Third and Fourth AP Funds, established to add-ress environmental and ethical issues, in the context of the funds’ corporate governance directives.


Committedto a betterclimate.For investment too.

Committedto a betterclimate.For investment too.The Norwegian Government Pension Fund or ‘The Oil Fund’, as it is often called, is often referred to as top of the classwhen it comes to transparency and corporate governance.Among other things, it has attracted attention for its commit-ment to climate issues, involving an active dialogue with the representatives for major holdings in selected industries.“The aim is to steer development in a sustainable direction – to the benefit of the Fund’s long-term return on investment,”says Anne Kvam, head of Corporate Governance at NBIM.

The Norwegian Government Pension Fundis managed by NBIM (Norway’s Bank In-vestment Management). The investmenthorizon is very long. This means that theFund must consider more than short-termfinancial data in its management of as-sets, given the fact that what may seemwise in the short term may not necessarilybe so wise when viewed in a 10-20 yearperspective. With this in mind, the boardhas included other factors that could have

a significant financial impact in the longterm, but which are not that noticeable inthe short term. Commonly referred to as‘extra-financial factors’, these include cor-porate governance issues.

Six priority areas The NBIM corporategovernance strategy during the period2007-2010 comprises six priority areas.Four are classic in nature: the right tovote, the right to nominate and select

board members, the right to trade sharesfreely and the right to transparent infor-mation. The other two areas are some-what different. These comprise issuesrelated to social and environmentalsustainability.

Climate change an important long-termfactor According to NBIM, there is noquestion that far-reaching climate changeis an ‘extra-financial factor’ that could

Source:NorgesBank

/Photographer:Nancy

Bundt

have a severely negative impact on theFund’s global portfolio. A number of stu-dies support the Bank in its conclusion.These include reports from the IPCC(Intergovernmental Panel on ClimateChange) and the Stern Review, which de-mands that action be taken to developfunctional control systems for reducing

emissions and thereby long-term costs –which is of crucial importance to a broad-based and long-term fund manager suchas NBIM.

“The Stern Review is brutally clear inevaluating the long-term losses in termsof global GNP, if the impact of climatechange cannot be controlled,” notes AnneKvam, who heads Corporate Governanceat NBIM.

Apply pressure via one’s holdings InNBIM’s opinion, investors who try to go italone in seeking regulatory change with aview to introducing better control systemsand long-term environmental improve-ments have chosen the wrong route. On

the other hand, the Fund believes pres-sure can be effectively exerted via one’sholdings in a company. Many large corpor-ations are actively engaged in lobbying intheir home countries, in attempts to influ-ence regulatory development. Engaging ina dialogue with these companies, to per-suade them to contribute to more favour-

able development, or at least not toobstruct it, is becoming an increasinglyimportant tool in promoting positive long-term development in terms of the climateand thereby many of the Fund’s holdings.

At the same time, the Fund encour-ages companies to establish long-termstrategies to address the variousenvironmental threats and, simul-taneously, to prepare themselvesfor future environmentally-relatedpolitical change.

NBIM has been implementing thisapproach for just over a year. The initialidea was to gain an understandingof the companies’ situation andto clarify the needs of long-term

investors. During this period, the climateissue has climbed ever higher on theagenda, and a number of differentlegislative proposals have been tabledfor discussion, regionally and globally.

“These proposals establish a naturalbasis for discussion and we notice thatthe companies’ detailed knowledge andstrategic awareness of the issue hasgrown, which is only natural,” notes AnneKvam.

“We shall never know exactly what thecompanies are lobbying for, but they arecertainly more aware these days that theywill be taking a greater risk than previ-ously, if they lobby against the long-terminterests of their shareholders.”

Dialogue with major corporations In all,NBIM has analysed some 100 of the lar-gest companies in its portfolio, in terms of

sustainability. Of this total, some 20companies were selected, in view of thefact that they are expected to be affec-

ted by future legislation. During2007, the Fund conducted an

exhaustive dialogue with


“ONCE YOU’VE BECOME AWArE OF THE CHANGES NEEDED TO ADDrESSTHE CLIMATE PrOBLEM, IT’S DIFFICULT TO rEVErT TO OLD WAYS.”

The Norwegian Government Pension Fund, which is managed by Norway’s Bank InvestmentManagement, NBIM, is the second largest national investment fund in the world. The Fund isexpected to top NOK 2 700 billion in assets under management during the year, which is 13times more than ten years ago. This translates into more than NOK 580 000 for every Norwegian.

Given today’s high oil prices, the Norwegian State could in principle fund all its currentcosts from oil revenues and reduce tax to 0 percent.

The idea must be tempting. But the fact is that it would probably cost more than it wasworth, by causing soaring inflation and hiking the exchange rate for the Norwegian krona.We are talking about changes that would probably wipe out Norwegian industry outside theoil sector. The Norwegian Government Pension Fund, where a large proportion of the country’s oilrevenues are transformed into financial investments abroad, functions as a stabilizing instrument,reducing the risk posed by this type of problem.

More than NOK 580000 for every Norwegian


these companies, addressing this type ofissue – a process which continued in2008.

“We are really less interested in thenumber of companies than in the degreeof influence individual companies mighthave on the regulatory process,” saysAnne Kvam.

This process, in conjunction with thegeneral debate concerning the environ-ment, encouraged several of the Fund’sportfolio companies to review their stanceon climate issues. Many of them changedthe way they conducted their lobbying ac-tivities. Moreover, a number of strategicmeasures were adopted with a view tobetter satisfying future environmental re-quirements, including technological im-provements.

Many have changed their attitude TheFund’s attempts to exert influence arefocused mainly on holdings in the USA,since regulatory development in the USis considered to have a major impact onlegislation in other countries. Specialattention is paid to companies in theenergy sector and industries featuringcompanies that are major energy

consumers.Corporate managements have demon-

strated a growing interest in discussingthese types of issue in recent years.

“Once you’ve become aware of thechanges needed to address the climateproblem, it’s difficult to revert to old ways,”says Anne Kvam.

“For example, at one point we visitedthe chairman of a major energy producer.One of the topics discussed was develop-ments in climate-related legislation. Thechairman, who was also president of thecompany and in constant contact withlegislators, subsequently came to Oslo onhis own initiative to continue the discus-sion with NBIM. This dialogue is still inprogress.”

These discussions have generallymoved on from the scientific issues tosolutions to the problem and how it mightbest be tackled.

“The corporate managements we meetall participate in this discussion. At thesame time, we must always rememberthat their primary objective is to securethe best possible result for their particularcompany. Consequently, the genuine de-gree of interest may vary.”

As debate about the climate issue has intensified in recent years, financial studies of the subjecthave increased. As well as studies to determine the possible costs of climate change, many havealso striven to identify the link between responsible corporate behaviour, often referred to as CSR(Corporate Social Responsibility) and return on investment. There is much to suggest such a link.A recent research report published by Dr Andreas Ziegler at the University of Zurich, for example,provides evidence of a positive link between CSR and share price. The study covers companies inthe USA and Europe between 2003 and 2006.

He presented his findings at the MISTRA (Swedish Foundation for Strategic EnvironmentalResearch) conference on sustainable investment, held at the Gothenburg School of Economicsat the end of June 2008. The actual presentation was held at the Centre for Finance, the SecondAP Fund being one of its associate companies.

The link between CSR and return

Although the level of interest may vary,NBIM normally receives a friendly wel-come. This may well be due to a joint in-terest: long-term and sustainable growthin asset value.

“Our mandate is to secure the long-term value of the entire portfolio, and westrive consistently to implement this man-date. It heightens the relevance of whatwe are saying to the companies we talkto,” states Anne Kvam.

Collaboration with other funds The Nor-wegian Government Pension Fund alsocollaborates with other institutional inve-stors on the climate change issue – thegreater the number working together, thegreater the negotiating power. This issomething that is expected to continue.

“We cooperate in one way or anotherwith several funds, in connection with ourclimate strategy. We shall have to waitand see how this develops, of course, butso far our experience has been positive.”

“The climate issue will be a vital issueon the agenda for a long time to come,and there are likely to be plenty of oppor-tunities for many forms of cooperation todevelop practical solutions to the pro-blem,” concludes Anne Kvam.

The Second AP Fund selected Generationbecause of its exceptionally competentand experienced investment team. Thefund’s strategy is clear, demonstrating agood balance between return and risk.

Generation’s ability as a ‘stock picker’(selecting the right company to invest in,based on a broad index) has contributedto a good historically risk-adjusted re-turn. The fund’s integration of sustainabi-lity issues as an important parameter inits share analysis distinguishes it frommost other equity funds. In concreteterms, this means that the fund com-pares and analyses how long-term eco-nomic and environmental factors, as wellas social and geopolitical considerations,are likely to affect the share value.

What’s the main difference betweenyour fund and most other ethical funds?“First and foremost, we consider ourselvesto be a ‘normal’ investor. We don’t usuallycompare ourselves to other ethical funds.We aim to be one of the leading globalequity funds on the market.”

“Our greatest strength is the integra-tion of a sustainability analysis with thefundamental equity analysis. Many otherorganizations divide their fundamentalequity and sustainability analyses be-tween two different teams. We don’t.Here, each member of the investmentteam is responsible for both thefundamental equity and sustainabilityanalyses in their sectors and among thecompanies they cover.”

In autumn 2007, the Second AP Fund invested in the global equity fundGeneration. This is an actively managed fund with a long investmenthorizon. Investments are based on a fundamental analysis in which

sustainability issues are awarded considerable significance.The Second AP Fund has talked to David Blood, earlier president

of Goldman Sachs’ global capital management.




How does this make your analysis bet-ter? “It provides us with additional datathat others either fail to gather or simplylack the processes and people neces-sary that enable such data to be integra-ted in an effective manner. Our broaderinformation spectrum probably gives usa different and more balanced perspec-tive on the executive managements,business operations and market worthof corporations.”

How long had you planned to start thistype of fund, where sustainability is in-tegrated into the analysis? “I spentmuch of my childhood in Brazil. This hascontributed to my deep commitment toissues affecting social development anda reduction in poverty. When I left Gold-man Sachs in 2003, I wanted to estab-lish something that united my interest incapital markets and investments withsustainability and social development.”

“The same applies to Al Gore, anotherof the fund’s founders, who has investeddecades of his life in highlighting theproblems that the climate crisis couldgenerate. We had both pondered sustai-nability issues for several years before westarted Generation 2004. We under-stood, as did the other founders, thatthese issues have a huge impact on cor-porations. We sought a way to apply ourway of thinking to capital markets.”

What persuaded you to actually startthe fund? “I think the timing was fairly

fortunate. When I met Al Gore in 2003,we were both in a position to act on ourconvictions that sustainable investmentis the best way to manage money. Thiscatalyzed the creation of Generation inearly 2004. But it was another 18months before we actually started man-aging assets for our clients. We wantedtime to gather our team and develop ourprocesses, since we really started with ablank sheet.”

In what sense is corporate governancean important instrument in your mana-gement of assets? “Corporate gover-nance is a key factor we take intoaccount when analysing the quality ofthe management team, in a company wemight invest in. It is therefore an impor-tant part of our investment theory. We re-ally try to get to know the company wellbefore we invest. Our investment processinvolves a detailed analysis of factorssuch as corporate culture, respect forshareholders, ethics and management.Companies that fail to meet our qualityrequirements don’t get into the portfolio.”

The Göteborg Award for SustainableDevelopment, of which the Second APFund is a sponsor, was presented tothe environmental debater Al Gore in2007. “Nobody has alerted the worldto the climate issue as he has,” sta-ted the jury, in its award dedication.

Al Gore was presented with the prize ofSEK 1 million by HRH Crown Princess Vic-toria of Sweden, at a major gala receptionheld at Gothenburg’s Scandinavium Arenaon January 22nd 2008.

The Göteborg Award for SustainableDevelopment is an international awardpresented for notable achievements insustainable development. The Awardwas first presented in 2000, at that timeentitled the Gothenburg InternationalEnvironmental Award.

Every year, an independent jury se-lects an award winner who has contribu-ted to sustainable development, withinone of the Award’s chosen criteria. Awardwinners have ranged from environmentalcertification agencies and cooperatives topoliticians and company presidents.

Previous winners have includedToyota, for its hybrid technology, as well asSweden’s Hans Eek and Germany’sWolfgang Feist, for developing ways toconstruct low-energy ‘passive’ houses.

The Award, amounting to SEK 1 mil-lion, is presented in association with theCity of Gothenburg and twelve other spon-sors, including the Second AP Fund, Han-delsbanken, Nordea and SKF.

Environmentalaward to Gore

Phot

ogra

pher

:Rol

fHal

lin

Over the past few years, the media, politicians and the financial establishment have identifieda new global investor group: Sovereign Wealth Funds (SWFs) – state-owned investment funds.

Voices have been raised in favour of limiting the influence of such funds through legislation.Others feel that this is not the way to go, as it would merely cripple global capital markets, withcostly after-effects in the form of imbalances and reduced efficiency.

Chinese, russian and Arabic Sovereign WealthFunds In just a few years, SWFs have progressedfrom being a concept that raised barely an eyebrowto one that is forcing both politicians and thefinancial community to do some serious thinkingabout how to respond.

Started as early as the ’50s Although the termSWF may be only a few years old, the phenomenonitself is really not that new. For example, Kuwait’s

state-owned investment fund has been managingits wealth since 1953. The fund proved invaluablein helping rebuild the country after Iraq’s invasionin the early 1990s.

A fortune in bird droppings The tiny Pacific islandof Kiribatis also has a fund, based on revenuesgenerated from the sale of guano which, since1956, has created huge economic benefits for itspopulation of just over 100 000 citizens. The fund’s



worth is currently rated at about USD400 million.

’80s wave of investment soon beachedEven so, the first big wave of state-invest-ment fund activity did not arrive until the1980s. The greatest difference betweenthen and now is the way such fundsinvest.

In th ’80s, these funds invested mainlyin their domestic industries. The resultswere discouraging. The funds generatedpoor returns and fuelled inflation – as de-monstrated by Norway, among other coun-tries. The fact that this phenomenon hasbeen named ‘Dutch Disease’ is quiteanother story (see box on page 27).

The new wave is much stronger Now thesecond wave of state investment fundshas arrived. Just since 2005, twelve largenew SWFs have appeared. The greatestdifference compared with the previous ge-neration is that they invest globally. Andthey are much bigger. According to the la-test figures from the Sovereign WealthFund Institute, these funds represent acombined capital of USD 3 850 billion.Although these are big numbers, it meansthat the SWFs still have a good way to gobefore reaching the same level as thepension funds’ combined assets, whichare in excess of USD 20 000 billion. Ne-vertheless, the rate of growth is dramatic:18 percent in 2007 alone, according toBritain’s IFSL (International Financial Ser-vices London). This increase is to a greatextent fuelled by the sharp rise in theprice of commodities.

A forecast published by MorganStanley notes that, within ten years, thelargest funds will have more than USD

13 000 billion in assets and will control 5percent of the world’s combined capital.

Power shift creates anxiety This couldmean a shift of power – which is whymany politicians are demanding that con-straints be imposed. These include howmuch funds will be allowed to own in indi-vidual companies and how far they will beallowed to exploit their governance rights.In the EU, for example, there has beentalk about the possibility of instituting a‘golden share’, similar to our Swedish ‘A’-class shares, which can be used to retainpower in the company. This is somethingthat has been suggested by Angela Mer-kel, Germany’s Federal Chancellor, amongothers.

Critics of SWFs are mainly concernedabout protecting national interests – theysay they are averse to selling off nationaltreasures to funds whose aims areunclear and which in many cases are go-verned and controlled by undemocraticgovernments. Theoretically, this couldoccur in conjunction with the privatisationof a state-owned company if it was floa-

= origin of fund capital: oil

= origin of fund capital: other

000 = capital under management, USD billion

= degree of transparency, 10 is the highest. The Linaburg-Maduell Transparency Index ranks SWFs according to ten criteria,all of which are related to transparency. The Norwegian GovernmentPension Fund, which is a model of transparency and clarity,provided the starting point when developing the index’s structure.

Source: Sovereign Wealth Fund Institute

The bar diagram at right shows the world’slargest Sovereign Wealth Funds. Bar heightcorresponds to the size of the fund, whilethe figure in parentheses indicates the degreeof transparency.

AbuDhabiInvestmentAuthority(AbuDhabi)

GovernmentPensionFund–Global(Norway)

SAMAForeignHoldings(SaudiArabia)

GovernmentofSingaporeInvestmentCorporation(Singapore)

SAFEInvestmentCompany(China)

KuwaitInvestmentAuthority(Kuwait)

ChinaInvestmentCorporation(China)

HongKongMonetaryAuthorityInv.Portfolio(China)

NationalWelfareFund(Russia)

TemasekHoldings(Singapore)

Other

875

397

365

330

312

264

200

173

162

159

617

ted on the stock exchange andan SWF subsequently acquired a control-ling interest. There is worry that thefunds might function as political in-struments in the service of theirowner countries – such as ac-quiring control of companies instrategically important sectorssuch as commodities andtechnology. We are here talkingabout investments based on poli-tical motives, which do not neces-sarily lead to optimal financialreturns.

SWFs might become too skilful Atthe same time, some critics fear whatmight happen if the opposite provestrue – that the funds become tooskilful as investors, when seen strictlyin terms of the hunt for high returns.They paint a picture of a new GeorgeSoros syndrome, but with a lot moremoney. Gigantic funds playing the per-centage game can wipe out a nationalcurrency in just a few days, by identifyingtemporary inefficiencies in the financialsystem and exploiting them to the full.

Lack of transparency The most voci-ferous critics of these funds base theirargument on the extremely limited nature(which is putting it mildly!) of the infor-mation such funds provide. They have along way to go before they will be able tosatisfy the EU’s proposals for guidelinesgoverning long-term investment strategies,corporate governance and financial trans-parency.

In most instances, criticism of thefunds has been dealt with in a polite andalmost subtle manner, in the true traditionof diplomacy. In some cases, however,things have gone a step further. Political

representatives for Germany and Francehave unequivocally declared their dislikeof SWFs.

Even in the US, some politicians haveopenly expressed their anxiety over the oilfunds’ increased influence in the currentelection campaign – which has been do-minated by the economy and a distrust ofglobalization.

Even Sweden’s own Minister for LocalGovernment and Financial Markets, MatsOdell, has noted that such funds offerscope for improvement. In an interview forSwedish business daily Dagens Industri,on March 6 2008, he noted: “There aresome definite challenges that need to bemet, of course, in terms of transparency.”

Proposed constraints As a direct conse-quence of this anxiety, the IMF (Interna-

tional Monetary Fund) has been taskedwith drafting a code of conduct for

SWFs. As well as placing constraints onthe amount of stock a fund can own in in-dividual companies, additional demandsfor further changes include the esta-blishment of ‘mutual investor rights’: if aChinese SWF wishes to invest in Sweden,Swedish investors must be able to investin a Chinese company. Another demandthat has been under discussion is thatthese types of fund should not be allowedto undermine the viability of an entire cur-rency through speculation, as GeorgeSoros did in conjunction with the turbu-lence on currency markets in 1992. Manyalso point to the need for greater transpa-rency and that SWFs must be more openabout how they are operated, whetherthey report direct to the governments oftheir countries or have entirely indepen-dent boards of directors, and numerousother matters.

Wall Street welcomed the cash The list


free capital market are good for the hostcountries and for global growth.

Constraints already in place It shouldalso be noted that constraints already

exist, but they are not directed specificallyat SWFs. Most countries, for example,already impose constraints relating to theownership of banks and defence contrac-tors. Nevertheless, the regulations appliedto ownership and corporate governancevary from one country to another in anumber of important aspects – for in-stance with regard to seats on the board.

In some countries, the position is farfrom clear, as in the USA. There, thereis a committee for monitoring foreigninvestments, either classed as active orthat exceed 10 percent in an Americancompany.


of constraints and demands couldbe extensive – as could a list ofthe ways such demands havebeen presented.

The tone adopted by the mostvociferous supporters of imposedconstraints tends to mellow, for in-stance, when the state-owned in-

vestment funds are the only onesprepared to ‘put up’ some capital.Since the credit crunch sank its claws

into the USA, and until the spring of 2008,China, Singapore and the Arab oil stateshad invested hundreds of billions of USDin the country. The greater part of this sumfound its way to precisely that area ofcommerce where the crisis started: thecountry’s most eminent investment banks.

It is notable that the SWFs have them-selves made an effort to cosy up to the

West, both by expressing themselves ina relaxed manner to the media and bylinking themselves with some key names.As recently as July 8th 2008, TemasekHoldings – ranked tenth largest SWF inthe world –declared that it had recruitedMarcus Wallenberg to its board of directors.

Market liberals averse to constraintsThe proposals for constraints have gene-rated criticism from a predictable quarter.Most market liberals claim that the costof imposing protectionist constraints onthe capital markets could be high. Marketliberals believe that an increased elementof cross-border ownership contributes togreater balance in the global economy,

thanks to more integrated ownership,where money, know-how and technologyare disseminated throughout every partof the economic sphere. If this flow ofcapital vanishes, there is risk of a globaldecline in growth.This is also theOECD’s conclusion.In 2007, the G7countries taskedthe organizationwith looking at theSWF problem, from the host countries’view-point. As a result of the study, the G7member countries adopted the OECD’sdeclaration on SWFs and policies for hostcountries at a meeting of ministers inearly June 2008. Briefly, the declarationstates that host countries shall avoid theerection of protectionist barriers and dis-

criminatory practicesthat hinder SWFs. Atthe same time, thedeclaration expres-ses a wish for greatertransparency andmore clearly defined

governance of the funds in their countriesof origin. This thinking is based on theunanimous conclusion that SWFs and a

“MArkET LIBErALS BELIEVE THAT AN INCrEASED ELEMENT OFCrOSS-BOrDEr OWNErSHIP CONTrIBUTES TO GrEATEr BALANCE INTHE GLOBAL ECONOMY, THANkS TO MOrE INTEGrATED OWNErSHIP,WHErE MONEY, kNOW-HOW AND TECHNOLOGY ArE DISSEMINATED

THrOUGHOUT EVErY PArT OF THE ECONOMIC SPHErE.”

One of the reasons the majority of SWFs elect to invest abroad is their determination toavoid the affliction known as ‘Dutch Disease’. This was named after a phenomenon thataffected Holland in the 1950s, but which can affect any country that has amassed a largetrade and budget surplus, as can be generated by oil exports. During the 1950s, majorfinds of natural gas were made in Holland. Their exploitation generated huge revenuesfor the country. Even so, these export successes also had a downside, which includeda soaring exchange rate and inflation. This had a negative impact on the rest of thecountry’s export industries – leading ultimately to a decline in growth.

Dutch Disease – something all wish to avoid

“CrITICS OF SWFS ArE MAINLY CONCErNED ABOUTPrOTECTING NATIONAL INTErESTS – THEY SAY THEY ArE

AVErSE TO SELLING OFF NATIONAL TrEASUrES TO FUNDS WHOSEAIMS ArE UNCLEAr AND WHICH IN MANY CASES ArE GOVErNED

AND CONTrOLLED BY UNDEMOCrATIC GOVErNMENTS.”

“Special rulesfor SWFs – a stepin the wrong direction”

“Special rulesfor SWFs – a stepin the wrong direction”


Introducing special regulations to limit the freedom of ac-tion of sovereign wealth funds (SWFs) would be a step inthe wrong direction. It would risk creating an inefficient ca-pital market. Instead, we should focus every effort on hel-ping SWFs become more professional. So claims Knut N.Kjaer, former head of the world’s second largest SWF, theNorwegian Government Pension Fund, considered a modelof transparency and responsible governance.knut N. kjaer

Knut N. Kjaer, earlier head of theworld’s second largest SWF, theNorwegian Government Pension Fund.

What’s the difference between a pension fund,like the Second AP Fund, and an SWF?A pension fund has a clearly defined objective: to secure the viability of future pensions. It also nor-mally features a high degree of transparency.

The expressed objectives of Sovereign Wealth Funds vary greatly. Russia and Iran refer to their fundsas stabilization funds, whose primary function is to manage sharp fluctuations in energy prices.

The funds operated by China and South Korea focus on achieving a solid return and access to newmarkets, ideas and technology. Some SWFs declare none of their objectives. The Norwegian Govern-ment Pension Fund is an exception, with clearly defined objectives.

Husm

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Proposals to limit the SWFs’ freedom ofaction have arisen as a knee-jerk reactionto the growth of these funds. This is some-thing that worries Knut N. Kjaer. For in-stance, Knut N. Kjaer doesn’t have muchtime for the proposal that the funds be re-stricted to the roleof passive owners,because it couldwell result inmanagement-governed companies,inadequate control and low value genera-tion. Another point is that many SWFs arealready managed according to passiveinvestment strategies: they exhibit nointerest in exercising their voting rightsand demand no seats on the board.

“What we really need is more activeowners, including those who managepublic assets at arm’s length from thestate,” notes Knut N. Kjaer.

Demands should apply to all Some evenclaim that minimum demands should bemade concerning transparency in SWFs.

“This type of demand should apply tothe entire capital market, not directedspecifically at a single group of investors.Transparency is crucial to the creation ofa uniform and results-based organization,where every member of staff fully under-

stands the overall objective of its busi-ness activities.”

“Instead of talking about special rulesand constraints, we should be discussinghow we can contribute to making thefunds more professional in the way theyoperate. I believe that state-owned funds,whether SWFs or pension funds, can berun just as professionally as the best pri-vately owned funds.”

Some useful principles There are a fewbasic principles that managers of SWFsshould adopt to generate higher returns.

The first is to ensure that there is financialknow-how at the highest level – andthis is not something that should bepurchased via external managers.

“Moreover, the funds should be abso-lutely clear about their financial objec-tives, and ensure that portfolio managershave the instruments and mandates ne-cessary to achieve the returns expected ofthem. There should also be a clear alloca-tion of responsibility for each investmentmade and each objective achieved – allthe way from portfolio manager to boardlevel.”

Such a system leads to reliable riskcontrol while at the same time buildingstaff confidence, something that helpscounteract the follow-my-leader mentalitythat is so often associated with mediocreresults and, occasionally, radically erro-neous decisions.

“TrANSPArENCY IS CrUCIAL TO THE CrEATION OF AUNIFOrM AND rESULTS-BASED OrGANIZATION, WHErE

EVErY MEMBEr OF STAFF FULLY UNDErSTANDS THEOVErALL OBJECTIVE OF ITS BUSINESS ACTIVITIES.”

“WHAT WE rEALLY NEED IS MOrE ACTIVE OWNErS,INCLUDING THOSE WHO MANAGE PUBLIC ASSETS AT

ArM’S LENGTH FrOM THE STATE”

The Fund’s actions are guided by ten keyindicators, each of which is subjected tothorough analysis. These are:

Capital structure

Corporate structure

Shareholder structure

Board of directors and nominationprocess

Executive management and executiveremuneration

The role of auditors and audits

Information and corporate communi-cation

Investments, acquisitions and divest-ments

Corporate culture

Ethics, the environment and genderequality.

The Second AP Fund: gets in touch withcompanies directly if necessary In com-panies where the Fund identifies a needfor change concerning one or more of theten principles, it attempts to establish con-tact at an early stage. This may even in-volve collaboration with other investors. TheSecond AP Fund believes that an ongoingdialogue with companies is invaluablein contributing to change that creates in-creased shareholder value, without therebyplacing the Fund in an insider position.

The Second AP Fund: focuses on compa-nies in which it can exert a majorgovernance role In Sweden, the SecondAP Fund mainly becomes engaged in go-vernance issues in companies in which itis one of the largest stakeholders or inwhich it has invested most. In cases wherematters of principle are concerned, even

The Second AP Fund shall through its actions actively promote sound practice in the areas of ethics, the environment and assetmanagement, with the ultimate aim of enhancing the long-term value of the Fund’s capital assets. The Fund adopts a number ofdifferent approaches in addressing governance issues, based on an in-house analysis of portfolio companies from an investorperspective. A description of the instruments employed in corporate governance is given below. A more comprehensive descrip-tion may be found in the Second AP Fund’s Corporate Governance Policy, which may be downloaded from www.ap2.se

where other portfolio companies are invol-ved, the Fund may consider it important tomake a stand.

The Second AP Fund believes that aclear majority interest is inappropriate due,for one thing, to the danger that a highdegree of active involvement in portfoliocompanies on the part of Fund personnelcan have a limiting effect that risks under-mining efficient portfolio management. TheSecond AP Fund shall not hold shares inan individual quoted company, Swedishor foreign, that corresponds to more thanten percent of the voting rights. OutsideSweden, the Fund exercises its votingright at the AGMs of some 60 of its largestholdings.

Concerning its holdings through mu-tual funds, private equity funds and share-index forwards, the Fund has neither theintention nor the possibility of adopting anactive role as a shareholder. In caseswhere the Fund is informed of governance-related problems in such companies, anyaction taken will be determined by the na-ture of the case in question.

The Second AP Fund: excludes the port-folio company where the dialogue failsto produce the desired result Should asuspicion arise that one of the companiesin which the Second AP Fund has investedhas been in breach of sound ethics, ig-nored important environmental considera-tions or has deviated in some seriousrespect from the desired governance prin-ciples, the actual state of affairs must beascertained immediately. Should this sus-picion be confirmed, the company shall beasked to provide immediate clarificationand submit a plan of action to remedy thesituation. In evaluating the situation, theFund shall consider the nature of the eventand any corrective measures that may

have been taken, or are to be taken, to en-sure that the problem does not recur. If theresponse is unsatisfactory, if corrective ac-tion is not implemented and if the natureof the event is sufficiently serious, the Se-cond AP Fund shall divest itself of the hol-ding as quickly as possible.

The Second AP Fund: participates in no-minating committees and votes at AGMsThe Second AP Fund makes it a principleto participate in nominating committees incompanies where it is one of the largestshareholders. When not represented on thenominating committee, the Fund submitsits views via the chairman of the nomina-ting committee. To avoid complicating theFund’s role as an active portfolio manager,Fund employees shall in principle notserve on the boards of quoted companies.

The Annual General Meeting of a com-pany is its highest executive organ, and theFund assumes that important decisionsare well prepared prior to the AGM. The Se-cond AP Fund shall participate in, exerciseits voting rights at and, in some cases, alsoact at the AGMs of companies in which ithas a significant interest.

The Second AP Fund: places the samehigh demands on holdings owned via ex-ternal managers When an external man-date is awarded for the activemanagement of Fund assets, the SecondAP Fund shall inform the selected managerabout its current Corporate GovernancePolicy. If necessary, an ongoing dialogueshall be conducted with the portfolio ma-nager concerning governance issues. TheSecond AP Fund always retains responsibi-lity for governance matters, whether thecorporate holdings form part of an in-house or an externally managed portfolio.

The Fund’s governance activities in brief


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Sources of additional information� The Second AP Fund’s Corporate Governance Policy, www.ap2.se

� The Second AP Fund’s 2007 Annual Report, parts 1 and 2, www.ap2.se

� The Second AP Fund’s Female Representation Index 2008, full presentation, www.ap2.se

� The Ethical Council Annual Report 2007, www.ap2.se

� Orange Report, Swedish Pension System’s Annual Report 2007, www.forsakringskassan.se/filer/publikationer/pdf/par06.pdf

� UN report “Responsible Investment in Focus: How leading public pension funds are meeting the challenge”,in which the work of the Second AP Fund is presented, www.unepfi.org/fileadmin/documents/infocus.pdf

� Presentation of the Principles for Responsible Investment, www.unpri.org/files/pri.pdf

� Presentation of the Global Compact, www.globalcompact.org/docs/about_the_gc/gc_brochure_final.pdf

Second AP Fund · Box 11155 · 404 24 Gothenburg · Sweden · Visitors: Östra Hamngatan 26–28Telephone +46 31 704 29 00 · Fax +46 31 704 29 99 · www.ap2.se

The capital assets invested in Sweden's publicly financed national pen-sion system are managed by five "buffer funds", which invest these as-sets in the capital markets.

The joint investment regulations, which are identical for the First toFourth Swedish National Pension Funds, permit investment in severaldifferent classes of asset and on different markets.

The Second Swedish National Pension Fund/AP2 (hereafter namedas “the Second AP Fund”), located in Gothenburg, started operations onJanuary 1st, 2001. Since then, it has progressively developed and im-plemented its objectives, strategies and infrastructure, and is today aglobally oriented portfolio management organisation.

The Board of the Second AP Fund is appointed by the Swedish Go-vernment. Each director is appointed to further the Fund's managementgoals, according to his/her individual competence.

The Second AP Fund is determined to be a leading pension managerwith regard to return on investment, staff, inventiveness, efficiency andthe respect of its peers.

It will achieve this by means of efficient, professional and long-termportfolio management, featuring an effective utilisation of financial risk.

Since it was established in 2001, the Second AP Fund has maintai-ned a strategic portfolio that features a high percentage of equities, toattain a high long-term return. Fund capital amounted to SEK 207.2 bil-lion on June 30 2008. Equities account for 60 percent of the portfolio,fixed-income securities 36 percent and real estate and private-equityfunds 4 percent.

The Second Swedish National Pension Fund/AP2

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Documents

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