IS THE "HANDLING REGLER" SUSTAINABLE IN THE LONG RUN? RETURN UNCERTAINTY, PAYOUT RULES, AND SURVIVAL OF THE NORWEGIAN PENSION FUND GLOBAL

Abstract

The Norwegian Government Pension Fund Global enjoys the position of being one of the largest global sovereign funds in line with Abu Dhabi Investment Authority, China Investment Corporation and Saudi Arabian Authority with accumulated assets of more than $1 trillion. However, miraculous its depletion may look, this issue is already attracting attention as its rst payouts to the National Budget started in 2016, so that given stable but unsustainable payout rate, the Fund, created to provide perpetual bene t to Norwegian generations, may be depleted within much limited timeframe. The current payout rule or handling regler was set at the level of 3 percent and linked to expected real returns on the Fund s portfolio that are currently estimated at above 3% y-o-y, but these expectations are subject to mistake and bias. This paper argues that given the Fund s goal to preserve the purchasing power of its endowment, the payout rate must be strictly below the average expected return on the Fund for two reasons: (i) if returns are variable, the rate of the Fund s growth will be less than the average expected return, and (ii) asset returns demonstrate long cycles over long horizons, with extended period of average returns below the long-term average. Given an expected real rate of return after management costs of 3.6%, based on historical simulations, we believe that the current Fixed 3% payout rule is sustainable because it e ectively protects the Fund s corpus in the long run. However, if the ability to ensure stable and slightly countercyclical payouts is of great importance, the Average payout rule is a viable alternative.