Reconsidering VC investment for pension funds

  
Jung Yoo-shin 
 
The author, a professor at Sogang University, is an advisory board member of the JoongAng Ilbo Reset Korea campaign.
 
Korea is facing a convergence of economic and demographic challenges. The country’s potential growth rate has declined to the 1 to 2 percent range, and as of December 2023, people 65 and older accounted for more than 20 percent of its population. This demographic shift, combined with sluggish productivity, is prompting policymakers to seek new drivers of growth. Strengthening the country’s venture sector has become one key priority — and a growing number of voices argue that pension funds should be part of the solution.
 

People are pictured inside the office of the National Pension Service in Seodaemun District, western Seoul, on March 20. [NEWS1]

 
Traditionally, pensions in Korea have been governed by a strict risk-averse philosophy. Critics of relaxing current rules say that these funds, meant to secure workers’ postretirement lives, must prioritize capital preservation above yield. Venture capital, they argue, is inherently risky. Early-stage startups often fail, and even successful investments can take years to mature. These characteristics, critics claim, make venture investments incompatible with the stable asset management goals of pension plans.
 
Another concern centers on transparency and due diligence. Venture investing often involves asymmetry of information, particularly in the case of unlisted companies with unproven business models. These structural features, detractors say, make objective valuation difficult and heighten the risk of misjudgment. Such opacity, they contend, conflicts with the principles of safe and responsible pension fund management.
 
A third objection is regulatory. Current rules prohibit pension funds from investing in unlisted shares, effectively barring them from participating in most venture capital funds. This legal constraint reinforces the prevailing view that avoiding losses is more important than maximizing gains when managing retirement savings.
 
 
Yet advocates for change make a compelling case that the current framework is outdated and in need of reform. Their first argument is empirical: Returns on pensions have been underwhelming. In 2023, the annual return for Korean pensions stood at 5.26 percent, a relative improvement. However, in the past decade, the average annualized return has been just 2.07 percent. From 2017 to 2021, the National Pension Service recorded an average return of 7.63 percent while retirement pensions earned just 1.94 percent — a quarter of that figure. When inflation is taken into account, the purchasing power of 10 million won ($7,047) today would shrink to roughly 5 million won in 20 years. If real estate prices are factored in, the erosion is even more severe.
 
The second argument is that the perception of venture capital as excessively risky may be overstated. According to an analysis of 1,107 venture funds established since Korea institutionalized venture capital in 1987, the average annual return has been 8.7 percent. Notably, two-thirds of these funds earned an average of 15.7 percent per year. In other words, while individual outcomes vary, the asset class as a whole has delivered strong returns over the long term. The Korea Venture Investment Corporation, which manages public venture capital funds, posted an average return of 9.0 percent on 277 liquidated funds — recovering 1.5 times the principal invested. These results suggest that well-managed exposure to venture capital can enhance portfolio performance without jeopardizing overall stability.
 
Public pension funds that have already entered the venture space have seen even more robust results. Between 2014 and 2023, the National Pension Service achieved a 13.9 percent annual return on its venture capital investments. The Teachers’ Pension recorded 10.1 percent, the Government Employees Pension Service 9.2 percent and the Science and Technology Promotion Fund and Employment Insurance Fund 11.9 percent and 17.2 percent respectively. These institutions benefit from larger capital pools and higher credit ratings, enabling them to partner with competitive startups and top-tier venture capital firms.
 
There is also a strong theoretical foundation for diversified investing. In his modern portfolio theory, U.S. economist Harry Markowitz demonstrated that combining traditional assets such as equities and bonds with alternatives like venture capital can raise expected returns without increasing risk through proper diversification. His work laid the groundwork for pension reform and capital market development in the United States in the 1970s.
 

This file photo provided by the Ministry of SMEs and Startups shows Small and Medium-sized Enterprises and Startups Minister Oh Young-ju, 4th from left, at the opening ceremony for the Global Startup Center in southern Seoul on July 31, 2024.[YONHAP]

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In Korea’s context, the venture capital ecosystem remains underdeveloped compared to those of global peers. In 2023, Korea’s venture investment amounted to 0.26 percent of GDP. This is a quarter of the U.S. level (1.09 percent) and just one-seventh that of Israel (1.72 percent). The imbalance between the number of startups and the available pool of investors has created a buyer’s market, where capital scarcity limits the scale and speed of innovation. Allocating part of Korea’s substantial retirement pension assets to this space could help redress that imbalance.
 
Given these dynamics, a growing number of experts argue that it is time to allow — at the very least — the option of venture investing within retirement pension plans. If risk is a concern, participation could be optional, or limited in scale and subject to performance benchmarks. Workers and fund managers could be given the discretion to opt in, enabling a more flexible and diversified pension landscape.
 
In the face of economic stagnation and demographic pressures, Korea cannot afford to overlook potential sources of sustainable growth. Venture capital has already proved itself a productive channel for long-term investment. Opening the door for retirement pensions to participate — carefully, and with appropriate safeguards — could help secure both the future of Korean innovation and the financial well-being of retirees.
 
Translated from the JoongAng Ilbo using generative AI and edited by Korea JoongAng Daily staff.