Ireland Strategic Investment Fund

Legislative and Operating Framework

On 22 December 2014 the Ireland Strategic Investment Fund (ISIF) was established as the successor to the National Pensions Reserve Fund (NPRF) with a mandate to invest on a commercial basis in a manner designed to support economic activity and employment in Ireland.

The NPRF was controlled by the National Pensions Reserve Fund Commission (Commission) which performed its functions through the NTMA, the Manager of the Fund. The ISIF is controlled and managed by the NTMA.

The NPRF’s legislative and operating framework changed significantly over the period since it was established in April 2001. Its original statutory objective was to meet as much as possible of the costs of social welfare and public service pensions from 2025 onwards. Under this objective, the Commission was required to invest the assets of the NPRF so as to secure the optimal total financial return, subject to an acceptable level of risk. This investment strategy was implemented through a globally diversified portfolio that included quoted equities, bonds, property, private equity, commodities and absolute return funds.

In 2009 and 2010 €10.7 billion of the NPRF’s assets were invested in Allied Irish Banks (AIB) and Bank of Ireland at the direction of the Minister for Finance. A further €10 billion investment was made under direction in 2011 as part of the EU/IMF Programme of Financial Support. The remainder of the NPRF, the Discretionary Portfolio, continued to be managed by the Commission in line with its original statutory objective.

In September 2011 the Government announced its intention to redirect resources from the NPRF, following appropriate changes to its governing legislation, towards productive investment in the Irish economy. These legislative changes were made in the National Treasury Management Agency (Amendment) Act 2014 which formally established the ISIF.

On 22 December 2014 all assets governed by Irish law transferred automatically by operation of law from the Commission to the NTMA (becoming assets of the ISIF) and the NPRF’s investment mandate ended. From that date the Commission consists of a single commissioner (the Chief Executive of the NTMA) who is statutorily required to do everything reasonably practicable to give effect to the transfer of any remaining assets governed by foreign law. The transfer of these non-Irish assets, in particular illiquid assets and withholding tax recoverables, is more complex as it requires the cooperation of foreign counterparties. This process is currently underway and is expected to be substantially complete by mid-2015, though certain withholding tax recoverables may take longer. The NPRF Commission’s annual report and financial statements for 2014 are published separately.

Investment Strategy – Discretionary Portfolio

Capital Preservation
As a result of the change in investment mandate first signalled in 2011, the Commission acknowledged the requirement to preserve capital to ensure that resources were available when appropriate commercial investment opportunities in Ireland were developed or sourced. Simultaneously, it was necessary to maintain the NPRF’s capacity to participate in market gains in accordance with its statutory mandate.

In June 2011 the Commission developed a ‘Capital Preservation Strategy’ as a means of applying a ‘prudent person’ principle combining (i) adherence to the Fund’s long term investment mandate and (ii) a common sense approach to reducing volatility, given the statements by and requirements of Government that the NPRF’s mandate would be changed. This Capital Preservation Strategy continued throughout the period to end-2014.

Its impact has been to reduce the NPRF’s downside equity exposure – via the purchase of options and a reduced exposure to equities – and its implementation has been adjusted over time to reflect market pricing and the expected timeframe for mandate change. In early 2015 the NTMA extended the Capital Preservation Strategy pending the finalisation of the ISIF Investment Strategy.

Maintaining Liquidity
The liquidity profile of the NPRF has been managed to ensure that investments can be realised as required to fund Irish investments under the ISIF mandate, and to provide the ISIF with flexibility in implementing an appropriate investment strategy. This liquidity management process included substantial sales of the NPRF’s global private equity investments, and the holding of a significant proportion of assets which are realisable at low transaction costs and within a short time frame.

Investment in Ireland
Pending the statutory establishment of the ISIF, the Commission decided that up to 20 per cent of the NPRF may be allocated to investments in Ireland, allowing it to avail of attractive investment opportunities while ensuring that concentration risk resulting from an increased level of investment in Ireland was within acceptable limits.

On 31 December 2014 the total amount committed to investments that would support the ISIF mandate under this 20 per cent allocation was €1.4 billion. This included:

€361 million to three long-term funds that will provide in excess of €800 million of equity and credit investment for Irish small and medium-sized businesses (SMEs) and mid-sized corporates, comprising the Carlyle Cardinal Equity Investment Fund (€292 million), the China Ireland Technology Fund (US$100 million) and the BlueBay SME Credit Fund (€450 million);
€270 million to venture capital funds including four new investments made during 2014;
a bridging facility of €300 million to Irish Water to fund its start-up costs that will mature in September 2015;
commitments to infrastructure investment including €250 million to the Irish Infrastructure Fund, a stand-by credit facility to enable a significant PPP project to be delivered and a €44 million commitment to the Covanta Waste to Energy project; and
a €75 million commitment to a commercial real estate mezzanine finance fund to assist normalisation of the real estate finance market and completion of development projects.

In allocating funds to investment in Ireland, part of the objective is to act as a catalyst for third party capital investing in Ireland, thereby increasing the amount of investment that can be achieved from the finite resources of the NPRF/ISIF. As at 31 December 2014 the total project size was 2.5 times the NPRF/ISIF’s commitment.

*A number of investments have been made into global investment vehicles where capital is deployed outside of Ireland, but where provisions have been put in place to deploy certain amounts of capital within Ireland as part of the overall relationship. Figures may not total due to rounding. Source: NTMA

ISIF Investment Strategy

The NTMA is required to determine, monitor and keep under review an investment strategy for the assets of the ISIF (other than directed investments) in accordance with the ISIF’s statutory investment policy of investing on a commercial basis in a manner designed to support economic activity and employment in the State.

The “double bottom line” mandate of the ISIF – investment return and economic impact – represents a new approach to investing which will re-configure the ISIF from a sovereign wealth fund into a sovereign development fund. While investments may have differing expected returns, risk profiles or time frames, each must pass the commerciality test. The ISIF will have a long-term focus and will target the majority of its capital towards investments which build on the productive potential of the economy and the enterprise sector. It will seek to attract co-investment partners to invest alongside it, thereby increasing the economic impact of its resources.

In considering investments the ISIF will seek to promote economic additionality (benefits to GDP which arise as a result of the investment) while avoiding deadweight (where the economic impacts would have been achieved in any event in the absence of the investment) and displacement (where the investment will simply substitute for existing economic activity).

Following consultation with the Minister for Finance and Minister for Public Enterprise and Reform as required under the National Treasury Management Agency (Amendment) Act 2014, the NTMA, in May 2015, finalised the ISIF investment strategy based on the principles set out above. Further information on the investment strategy is available at isif.ie. In summary the ISIF will:

in accordance with its mandate, invest on a commercial basis in a manner designed to support economic activity and employment in Ireland;
develop a broad based portfolio:
– across sectors including but not limited to infrastructure, energy, water, real estate, housing, tourism, food & agriculture, technology, healthcare and finance;
– by asset class including debt, mezzanine finance, equity and project investments; and
– that seeks to achieve some transformative impact by investment in one or more “big ideas”.
utilise its key differentiating features of flexibility, long-term timeframe and being a sovereign investment partner to fill investment gaps and enable transactions which would not otherwise easily be completed;
seek co-investors where possible to assure the commerciality of its investments and leverage the economic impact that can be obtained from ISIF resources;
look to earn a portfolio return over the medium term in excess of the average cost of Government debt;
seek to achieve individual transaction returns that are appropriate relative to the risk involved;
target an 80 per cent allocation to “high economic impact” investment opportunities which will generate economic additionality over time and have low levels of displacement and deadweight;
pursue economic additionality in many forms including output (turnover), profits (operating surplus), net exports, capital expenditure and employment – an increase in any of these would be expected to increase economic activity;
report regularly on the economic impact (including employment, turnover, exports, profits etc.) and regional spread of its investments; and
deploy its capital over a three to five year period, subject to commercial investment opportunities being available.

Performance & Portfolio Update

Unless otherwise stated, all performance figures refer to the combined NPRF and ISIF portfolios (the Fund) – the NPRF prior to 22 December 2014, and the ISIF from this date.

Performance is reported on three levels; (i) the Discretionary Portfolio – the investment of which was the responsibility of the Commission prior to 22 December 2014 and which became the responsibility of the NTMA (as controller and manager of the ISIF) following the establishment of the ISIF on 22 December 2014, (ii) the Directed Portfolio – the public policy investments made at the direction of the Minister for Finance, and (iii) the Total Fund.

On 31 December 2014 the Discretionary Portfolio was valued at €7.2 billion and the Directed Portfolio was valued at €15.0 billion. The value of the Total Fund stood at €22.2 billion.

Discretionary Portfolio
The Discretionary Portfolio earned a return of 5.0 per cent in 2014. Its value increased by €344 million during the year. This return was driven by continued strong performance of risk assets as investors renewed their search for yield in a very low interest rate environment.

The Capital Preservation Strategy in place since June 2011 has rendered the Fund’s original long-term benchmark – which did not incorporate a capital preservation element – no longer suitable as a measure of performance.

The Fund’s secondary benchmark – the average cost of five-year Irish Government debt – provides a more suitable measure. The Fund outperformed this benchmark by 4.0 per cent in 2014. From June 2011 to 31 December 2014 the Fund’s performance was 6.2 per cent per annum. The average yield on five-year Irish Government debt over the same period was 3.7 per cent.

From the NPRF’s inception on 2 April 2001 until 21 December 2014 the Discretionary Portfolio delivered an annualised return of 4.0 per cent per annum.

Figures may not total due to rounding.
Source: NTMA

The ISIF’s global custodian, BNY Mellon, provides custody and accounting functions to the NTMA. BNY Mellon is responsible for transaction settlement and the holding of the ISIF’s directly owned public markets assets.

Directed Portfolio
The figures in this section relate to NPRF/ISIF investments only and do not include public policy investments in Irish financial institutions made by the Minister for Finance through the Exchequer.

Since 2009 a total of €20.7 billion of the Fund’s assets have been invested in AIB and Bank of Ireland at the direction of the Minister for Finance for public policy reasons.

At 31 December 2014 the Fund’s shareholdings in AIB and Bank of Ireland were 99.8 per cent and 13.9 per cent respectively. The Fund’s Directed Portfolio had a year-end valuation of €15.0 billion (up €1.9 billion from €13.1 billion at end-2013).

At end-2014 the Directed Portfolio comprised both ordinary and preference shares in AIB, valued in aggregate at €11.7 billion, and ordinary shares in Bank of Ireland, valued at €1.4 billion.

It also included cash proceeds of €1.9 billion from the sale and redemption of the Fund’s holding of Bank of Ireland preference shares in December 2013.

As the Fund’s preference share investment in AIB is unlisted and its ordinary shareholding leaves a free float of only 0.2 per cent, the NTMA, as the Commission had in previous years, engaged an external corporate finance firm to provide an independent fair market valuation as of 31 December 2014 for the purposes of valuing these investments in line with generally accepted accounting principles. Following this exercise the AIB ordinary shares have been valued at €0.0137 (1.37 cents) per share and the AIB preference shares have been valued at €1.30 per share.

The Fund’s ordinary shareholding in Bank of Ireland was valued at its market price of €0.313 (31.3 cents) per share at 31 December 2014.

The Directed Portfolio’s return in 2014 was 15.0 per cent, which is reflective of the improved economic and market outlook, improved financial performance of the underlying investments and the increase in valuation of comparable peer group companies. The bank investments valuation of €13.1 billion combined with cash of €4.2 billion received in dividend income, sales and redemptions (some of which has been remitted under Ministerial Direction to the Exchequer or transferred to the Fund’s Discretionary Portfolio), amounts to a total value of €17.3 billion at end-2014 (84 per cent of the total Fund investment of €20.7 billion).

Figures may not total due to rounding.
Source: NTMA

During 2014 the Minister for Finance withdrew €10 million from the Directed Portfolio to fund Government’s equity investment in the newly established Strategic Banking Corporation of Ireland (SBCI) and directed that a loan facility of €240 million be provided to the SBCI from the Directed Portfolio. This loan facility was not yet drawn down at end-2014.

Total Fund

The Total Fund, comprising both the Discretionary and Directed Portfolios, recorded a return of 11.6 per cent in 2014.