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Photographer: Kyrre Lien/Bloomberg Photographer: Kyrre Lien/Bloomberg

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After half a decade of negative interest rates, one of the biggest Nordic pension funds is wondering whether this is just the beginning.

The head of investments at Finland’s Ilmarinen Mutual Pension Insurance Co. says his industry is “just starting to see what kind of new challenges [negative rates] will cause.”

That means “we are just taking the first steps” in portfolio adjustments, Mikko Mursula said in an interview in Helsinki. He says reality hit after the summer, when it became virtually impossible to get government bonds at positive yields across most of the euro zone.

The steps he’s taken so far have led away from easy-to-sell assets, as liquidity becomes a luxury of a bygone age. It’s a way to preserve returns, but also means the pension industry is delving into much murkier asset classes that might prove hard, or very time-consuming, to offload if markets turn.

Euro-zone rates first went below zero in 2014. That’s two years after Denmark, which has had negative rates longer than any other country. Swedes have been living with the policy since 2015. According to the ECB, accommodative monetary policy is still needed as growth in the single-currency area slows.

In August, the global stock of assets trading at negative yields hit $17 trillion. (It’s since receded to about $12 trillion.) In Finland, $131 billion of debt traded at negative yields as of Nov. 18, down from $178.9 billion in August, with bulk of the sub-zero bonds issued by the government.

Initially deemed a short-term fix for flagging economies, the idea is gradually taking hold that Europe is nowhere near the end of the sub-zero era. The head of investments at PFA, a Danish pension fund with about $100 billion in assets, recently suggested that markets have fundamentally misinterpreted the staying power of the current cycle, amid a global supply shock.

Danish Central Bank Sees Low Rates Well Into Next Decade:

Denmark’s central bank governor, Lars Rohde, doesn’t expect interest rates to rise for some years ahead. “There’s nothing that immediately suggests that things should change significantly on a five- or 10-year horizon,” Rohde said, according to the Borsen newspaper. Contributing to low rates are structural changes such as population shifts that are slow to reverse, he said.

For funds like Ilmarinen, the practical response has been to ditch government and investment-grade bonds, and pile into alternative investments, such as real estate and infrastructure. Surviving with a lot less liquidity requires a new set of skills.

“We need to be very careful,” Mursula says.

In the alternative-asset universe, the best performing sub-asset class over the past 15 years has been private equity; but it’s tricky to maintain, according to Mursula.

“It’s definitely not buy-and-hold,” he said. Of the roughly $55 billion that Ilmarinen oversees, almost 8% is in private equity.

“Even to keep our allocation where it is at this moment we need to do new commitments all the time,” Mursula said. He says he wants to keep PE at about 8-10% of the total fund.

“The expected risk-return ratio of government bonds has never been this poor, as it is at this moment,” he said.

Aside from returns, there’s also the issue of scarcity as the European Central Bank sucks up the supply of bonds as part of its quantitative easing program.

And with the ECB potentially already buying up more euro-zone debt, Mursula says the risk is that “there won’t be too many Germany government bonds available anymore.”

One scenario Mursula isn’t bracing for is the possibility of so-called helicopter money from the ECB. The likelihood of policy makers handing out cash directly to citizens in the euro zone is, at most, a “very outlier scenario,” Mursula said. That’s why he’s not making any portfolio adjustments to prepare for such a step.

( Adds Mursula comments on helicopter money )