Q3 2023 Interim report KLP Group, sustainability and KLP

KLP has guaranteed to provide customers on public-sector occupational pensions with financial income equivalent to NOK 3.2 billion in the third quarter. Actual financial income amounts to NOK -2.2 billion after property investments have been written down by NOK 3.4 billion. The write-downs on property are due to a higher required rate of return resulting from higher interest rates. KLP thus made a loss (shortfall in returns) from the management of customer funds of NOK 5.4 billion in the third quarter. The investment result amounts to NOK 15.8 (-27.3) ¹ billion up to the third quarter. The return on customer funds in the common portfolio was 3.9 per cent for the year to date.

The risk result is an indication of whether disability and mortality in the insurance stock is developing as expected.

Through the third quarter there was somewhat lower disability than assumed by KLP, but so far this year disability is higher than expected. The result so far this year related to disability amounts to NOK -313 million.

Mortality has been higher than expected, although the effect was far smaller in the third quarter than in the first half-year. So far this year, the result related to mortality amounts to NOK 606 million.

The risk result related to survivors’ cover amounts to NOK 30 million so far this year. The total risk result thus amounts to NOK 364 million so far this year.

The difference between the cost elements within premium income, withdrawals from management reserves and insurance-related operating expenses constitutes the administration result. The Company’s administration result shows a surplus of NOK 176 (56) million so far this year, of which NOK 114 million fell in the third quarter. Insurance-related operating expenses came to NOK 1.1 (1.1) billion so far this year.

Total profit/loss to the Company stands at NOK 1.1 (0.5) billion for the year to date. The customer result is NOK 16 (-26.3) billion so far this year.

KLP’s total assets have increased by NOK 61.5 billion in the year to date and amount to NOK 771.8 billion. The premium reserve increased by NOK 46.3 billion to NOK 564.8 billion in the same period.

The buffer fund amounts to NOK 101.9 billion after the third quarter. The fund can be used to cover the lack of return from the management of customer funds and is thus a financial buffer. A positive interim result to customers of NOK 16 billion also constitutes a buffer.

Without applying transitional rules, the Company’s solvency capital requirement (SCR) is 368 per cent. This is a change of 38 percentage points in the quarter, and is due to a new calculation methodology for longevity and disability risk, which increased cover by 24 percentage points while payments of annual equity contributions accounted for 15 percentage points.

KLP's target is for capital adeqauacy to exceed 150 per cent. Solvency is well above this target and thus enables sound and stable management of customer funds in a multi-year perspective.

Premium income excluding premium reserves received on transfers in amounts to NOK 59.9 (40.2) billion at the end of the third quarter. Of this, premiums related to the regulation of accrued rights amount to NOK 37.5 (20) billion.

Pensions paid and other claims, excluding ceded premium reserves, amounted to NOK 19.4 (17.8) billion at the end of the third quarter.

The assets in the common portfolio totalled NOK 718.2 (671.1) billion:

Total exposure in shares and alternative investments, including equity derivatives, was 30.9 per cent at the end of the third quarter. The total return on shares and alternative investments was minus 1.0 per cent in the quarter. The return on KLP’s global equities was minus 3.0 per cent, while KLP’s Norwegian equity portfolio returned 6.1 per cent in the quarter.

The currency hedging ratio for equities in developed markets and the most liquid currencies in emerging markets was between 50 and 70 per cent. In the third quarter, the Norwegian krone strengthened against the US dollar and the euro, among other currencies. Currency hedging had a positive impact on the return on shares this quarter.

Short-term bonds accounted for 10.8 per cent and money-market instruments 4.2 per cent of the assets in the common portfolio at the end of the quarter. Norwegian, Eurozone and US government interest rates all rose during the third quarter. KLP’s global government bond index achieved a currency-hedged return of minus 2.3 per cent in the quarter, while the return on the Norwegian government bond index was minus 0.3 per cent. Global credit margins fell slightly through the quarter. The quarterly return on KLP's global credit bond index was minus 2.1 per cent, while the return on the Norwegian bond index was 1.0 per cent. Short-term bonds produced a total return of minus 0.3 per cent in the third quarter.

The money market return was 1.3 per cent for the quarter.

Investments in bonds recognised at amortised cost made up around 29.1 per cent of the common portfolio at the end of the quarter. Unrecognised decreases in value in the portfolio amounted to NOK 16.9 billion at the end of the third quarter. The portfolio is well diversified and consists of securities issued by creditworthy borrowers. The return measured at amortised cost in the third quarter was 1.0 per cent.

Property investments, including Norwegian and international property funds, accounted for 13.4 per cent of the common portfolio. Property values in the common portfolio were adjusted downwards by NOK 6.0 billion in the third quarter. The write-downs are based on higher required rates of return due to higher interest rates.

Property investments in the common portfolio achieved a return of minus 3.3 per cent in the year to date. The returns include currency hedging and property funds. There is still uncertainty associated with the effects of the various factors that influence the property market, including interest rates, required rate of return, inflation and costs.

Lending in the common portfolio totals NOK 81 billion. This is split between NOK 70.9 billion in loans to the public sector, NOK 2.9 billion in secured mortgage loans and NOK 0.2 billion in loans with government guarantees, with the remaining NOK 7 billion made up of direct lending. The lending portfolio is of high quality, with no losses on municipal loans and very modest provisions for losses on mortgage loans. Unrecognised decreases in value in the lending portfolio (fixed-interest loans) totalled NOK 1.7 billion at the end of the quarter. Returns so far this year are 3.7 per cent

The corporate portfolio covers the placement of owners’ equity and subordinated loans/hybrid Tier 1 and Tier 2 securities.

The corporate portfolio is managed with a moderate-risk long-term investment horizon, with the objective of stable returns. Investments in the corporate portfolio achieved a return of 0.6 per cent in the third quarter, and 2.0 per cent for the year to date. The return in the quarter is affected by write-downs of property investments.

The market situation for public-sector occupational pensions is stable. We have received notice of termination from two local government customers who have decided to move to another provider. On the corporate side, there are a small number of companies that are considering which pension solution to take in the future and which provider they might want to use.

At the end of August, the Government and public-sector employers’ and employee organisations entered into an agreement on pension rules for persons with special age limits who were born in 1963 or later. The new rules involve a change to the ordinary pension rules that apply to these cohorts. The first pensions under the new rules can be paid in 2025 when the 1963 cohort turns 62. Within KLP, almost 40 per cent of members who are in work have a special age limit. Among other things, the solution entails a gradual shift in the special age limits over time, in line with the proposal presented by the Pensions Committee in its report from 2022. The agreement also states that a process will be initiated to assess the future need for special age limits.

Operating profit before tax was NOK 255 (-49.3) million at the end of the third quarter. The third quarter also yielded a good result, with a profit of NOK 65 (loss of 39) million. The improved performance is mainly due to satisfactory insurance results and reversals of previous years' reserves. Operating costs are also lower than expected.

Premium volume stood at NOK 2,575 million at the end of the third quarter, an increase of NOK 283 million from the position at 31.12.2022. Insurance income has increased by NOK 235 million, or 14.5 per cent, since the same time in 2022, and amounts to NOK 1,863 million. The retail market shows growth of NOK 70 million, or 10.4 per cent, while the public-sector and corporate market shows growth of NOK 165 million, or 17.3 per cent. The solid growth in the public-sector and corporate market is due mainly to substantial premium increases in some high-risk segments.

The insurance result (premiums minus claims paid in 2023), was NOK 252 (314) million at 30.09.2023. Both the property and motor insurance sectors within the retail market produced weak results. Increased material costs resulting from higher inflation are contributing to this trend, but the Company is also seeing an increased claims rate in the motor segment. Over time, the Company's premiums will be adjusted upwards to reflect the increased costs. Storms in August also led to somewhat higher than normal claims rates in these sectors.

No new major claims were reported in connection with ordinary business during the quarter. For the year to date, two claims exceeding NOK 20 million have been reported. Reversal of previous years’ claims is still positive, and this year NOK 105 million has so far been taken to income, equivalent to 4.9 per cent of the reserves at the beginning of the year.

There was one major natural disaster event during the quarter, related to heavy rain with subsequent flooding and water penetration. The total gross claim amount related to this event is estimated at NOK 1.8 billion, of which NOK 1.35 billion is covered by the Norwegian Natural Perils Pool. The Company's share of the natural perils is estimated at NOK 89 million. Reinsurance covers NOK 34 million of the Company's costs. A natural disaster reported earlier in 2023 has also taken a turn for the worse, and the Company's share of this claim is now NOK 50 million, an increase of NOK 5 million.

Net financial income at 30.09.3023 was NOK 185 (-136.9) million, representing a return of 3.3 (minus 2.5) per cent. Returns for the third quarter in isolation were NOK -12 (-24) million, or minus 0.2 (minus 0.4) per cent. So far this year, the equity portfolio has returned 14.2 (minus 16.2) per cent. As of the first half-year, the Company’s investments in interest-bearing funds had a return of 1.8 (minus 7.6) per cent, while long-term bonds

returned 4.4 (2.5) per cent in the same period. The return on the property investments was 0 (10.1) per cent, following a write-down of property values by NOK 26 million this year. The third quarter in isolation saw a return of minus 2.2 per cent on equities, 0.3 per cent on interest-bearing instruments and 2.0 per cent on long-term bonds. Property investments returned minus 3.7 per cent in the quarter.

The Company’s financial position is good, with a solvency capital requirement (SCR) of 246 per cent at the end of the third quarter, compared to 222 per cent at the end of 2022 and 222 per cent after the second quarter of 2023.

KLP Kapitalforvaltning AS provides securities management in the KLP Group. It had a total of NOK 715 billion under management at the end of the third quarter, of which NOK 162 billion was for external customers.

The majority of the assets are managed on behalf of KLP and its subsidiaries.

Net subscriptions to the KLP funds were NOK 12.1 billion in the first three quarters of the year, of which NOK 10.8 billion came from external customers. The number of direct unit-holders at the end of the third quarter was 36,901.

KLP Kapitalforvaltning AS made a profit before tax of NOK 42.2 million to 30.09.2023.

The KLP Banken Group finances mortgages and other credit to individual customers (retail market) as well as loans to municipalities, county municipalities and companies that provide public services (public-sector market). The Bank’s lending business is financed by deposits from private customers and companies, loans from the securities market and owners’ equity. The Bank also manages a substantial volume of lending financed by pension assets in KLP.

At the end of the third quarter, the KLP Banken Group achieved an operating profit before tax of NOK 203.1 (97.5) million, of which the third quarter in isolation accounted for NOK 81.6 (55.0) million. The change is mainly related to increased net interest income in both business areas and reduced losses on financial instruments. Broken down by area, profits for the second quarter were NOK 139.0 (57.8) million in the retail market and NOK 64.1 (39.7) million in the public-sector market.

The KLP Banken Group’s total lending as of 30 September 2023 amounted to NOK 43.1 (42.1) billion. The split between the retail and public-sector markets was NOK 23.7 (23.4) billion and 19.4 (18.7) billion respectively.

KLP Banken manages NOK 2.9 (3.0) billion in mortgage loans and NOK 75.9 (73.8) billion in loans to public-sector borrowers and other businesses on behalf of KLP.

In the year to date, losses and loss provisions in the retail market amounted to NOK 1.0 (-0.1) million. Losses and provisions are mainly in the retail market. Nor were any losses on public-sector lending recognised in the third quarter.

From 2023 onwards, the KLP Group will present its accounts in accordance with the new accounting standard IFRS 17 Insurance Contracts. The new standard takes account account of the fact that KLP is mutually owned, and that the policy-holders for public-sector occupational pensions are entitled to all value creation in the Group. This means that, according to IFRS 17, the Group has no equity and the profit/loss will be zero.

However, the Group has reported equity of minus NOK 3,555 million as of 30.09.2023. This equity arises because policy-holders are entitled to the fair value of all assets and liabilities in the business, but some assets and liabilities are not recognised at fair value. There is then a valuation difference which constitutes equity in a mutual insurance company. The change in valuation difference in the period, NOK 129 million in the third quarter/NOK 86 million so far this year, will then be posted to profit/loss.

The Group's insurance liabilities related to contracts for public-sector occupational pensions amounted to NOK 734 billion at 30.09. This is an increase of NOK 27 billion in the quarter, and NOK 47 billion in the year to date. NOK 20 billion of the growth in the year is due to an increase in the value of assets and liabilities transferred to policy-holders.

Refer also to Note 37 to the 2022 financial statements for a further description of the transition to IFRS 17.

Labour and skills could constitute a bottleneck in the green transition. This is shown in the report “Enough people?” from KLP and the Norwegian Climate Foundation. The report analyses projections for labour needs in various sectors in Norway. Even with moderate estimates for growth in the “industrial adventure sectors”, heads and hands are a scarce commodity. Healthcare and other sectors also need a bigger workforce, and Norway does not have enough manpower to do everything at the same time. We will have to prioritise the collective resources in our society, and ensure that enough people are trained in the skills that are most needed.

In the third quarter, KLP continued its efforts to establish direct dialogue with Chinese companies in the mining industry. KLP therefore participated in a mineral conference in Chengdu, where the aim was to follow up on mining companies KLP has invested in, and raise topics such as human rights, climate and nature impact directly with the companies.

In the third quarter, KLP Skadeforsikring entered into a partnership to promote sustainable building management and claim prevention in the local government sector.

In October, the Deputy Chair of the Board, Ingunn Trosholmen, was appointed State Secretary in the Prime Minister’s office. She took office on 16 October, and stepped down from the Board of KLP at the same time.

The change programme is currently the most important strategic initiative in KLP. The programme is establishing a new pension platform that will create new and unique user experiences, increase cost efficiency and prepare the business for a new supplementary pension from 2025.

Through the initiative, members and pensioners will be provided with new self-service interfaces to offer individual simulations and guidance, a fully digital application dialogue and access to their own policies. A new case management solution, the ‘Pension System’, will provide for automated processing of applications, time-driven transitions and changes.

The new platform has so far been used on old-age pensions and today's AFP (early retirement) cover. All old-age pension cases are now processed in the new Pension System, and all new applications for AFP will also be included in the new solution. About 70 per cent of all new applications and transitions to old-age pensions are now handled fully automatically. Of all computer-initiated changes, about 60 percent are handled fully automatically. This provides good user experiences and cost-effective case management.

The change programme is now gearing up for the introduction of disability and survivors' pensions into the Pension System. Work is also underway to prepare KLP for a new industry-wide reimbursement solution and a new supplementary pension.

The mortality basis in the Pension Scheme for Hospital Doctors will be strengthened from 01.01.2024 after several years of negative results on longevity in this scheme. The conditions for women in this scheme to re-enter the abour market are also changing. Preliminary calculations indicate that the two changes combined will require an increase of NOK 2.5 billion in premium reserves, equivalent to around 6 per cent of the total premium reserve under the scheme.

Norway was reported to the ESA in 2022 for two matters relating to the public-sector occupational pension market. One case alleges that Norway is providing KLP with unlawful state aid, while the other complaint is that municipalities and health enterprises are breaching the rules for public procurement. Earlier this year it emerged that the Norwegian state, represented by the Ministry of Local Government and District Affairs, had responded to the ESA in a letter rejecting the complaints.

The case is now with the Authority, and no decisions have yet been made. Nor have there been any decisions in the case in which the Norwegian Competition Authority is investigating whether KLP has abused its dominant position. KLP is assisting by providing information and answering questions raised by the Norwegian Competition Authority in its investigations.

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