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During the year AP3 performed a materiality analysis to identify the sustainable development issues seen by stakeholders as the most important facing the Fund. This analysis provides the framework for our sustainability practices and reporting.

The material issues for us are those that matter most to our stakeholders, and for this reason the materiality analysis took an outside-in approach focused on stakeholders’ expectations. Based on an extensive market analysis, AP3 began the process by internally identifying and evaluating our highest-importance sustainability aspects, both internal and external. We then engaged in dialogue with external stakeholders to hear their views on these aspects.

The materiality analysis highlighted the highest-importance areas as follows: Long-term return, Business ethics and regulatory compliance, Anti-corruption, Active governance and Climate. There is a high degree of convergence between stakeholders’ priorities and those of AP3 when it comes to sustainability. Other
high-importance issues are human rights, labour practices, corporate stewardship and strategic sustainable investments.

Consensus between AP3 and stakeholders

Our mission – to ensure the value of the Swedish state pension by generating strong returns over time – is a high-importance area and reflects the task given to us by the Swedish Parliament. Taking a long-term approach to investment involves generating returns that benefit current and future pensioners.

Business ethics and regulatory compliance is another priority area. AP3 does not accept bribes or corruption. We are heavily regulated, which demands that we follow clear processes to ensure compliance and that we report any deviations.

Stakeholders attach great importance to anti-corruption. AP3 has a long tradition of working against corruption, and responsible stewardship is an integral part of our mission. We conduct proactive dialogue on anti-corruption in collaboration with the Ethical Council.

Active governance is a key issue and stakeholders attach considerable importance to sustainable asset management and sustainable asset allocation. AP3 has pursued sustainable asset management for a number of years and we have fully integrated sustainability practices into our investment process.

Climate change is an area that stakeholders regard as highly important. AP3 aims to be a role model in this field by engaging actively, by reducing the portfolio’s carbon footprint and by investing in green bonds.

Examples of how AP3 addresses its key sustainability priorities.

1. Sustainable investments for long-term returns

Taking a long-term approach to investment means generating returns that benefit current and future pensioners.

Prudent investment choices, strong governance and integrated sustainability are the keys to generating high returns at a low level of risk. AP3 took a number of important steps in this direction in 2016.

Sustainability is a core part of our investment philosophy and is essential for generating long-term returns. This is why we make strategic sustainability-related investments across different asset categories. These investments all share something in common: they seek to tackle climate change. They include investments in timberland, real estate and water.

 

2. Business ethics and regulatory compliance

AP3 has a long tradition of observing sound business ethics and complying with regulatory frameworks. We take these issues very seriously in terms of both our own operations and also those of our investees as we believe that companies which are responsible and well-managed offer superior returns over time.

Strong ethical principles and solid values are necessary throughout our organisation. The conduct of the individual employee sets the tone and provides the foundation, and in this context we have a code of conduct that sets out internal ethical guidelines. The core values of AP3 and the Swedish government are other important pillars. Business ethics and regulatory compliance are also paramount for investees. We work on the assumption that the companies in which we invest comply with the laws and regulations of the countries in which they operate. It is the responsibility of an entity’s board of directors to ensure that adequate processes and control systems are in place to ensure this.

Advisory group for enhanced risk management
AP3 continuously screens the portfolio to identify companies that fall short of the standards we expect. During the year we set up an internal sustainability advisory group in which AP3 fund managers meet to discuss sustainability risks identified in our holdings. The group discusses and analyses investees and sectors that exhibit specific sustainability risks. The managers also share knowledge to enable more efficient management of identified risks. Much of AP3’s
engagement vis-à-vis foreign investees takes place through the AP funds’ Ethical Council. The process of incorporating sustainability in our investment decisions has raised awareness of our key sustainability parameters, and this knowledge has in turn led to improved risk management and created scope for new investment opportunities. The sustainability advisory group plays a key role in enabling us to retain and share knowledge, while also serving as another internal control function that over time can help us to further improve the way we identify sustainability risks.

Successful engagement via the Ethical Council
AP1, AP2, AP3 and AP4 work together on environmental and social governance at foreign investees via their joint Ethical Council. Collaboration gives us a stronger voice and greater influence in this arena. The Ethical Council takes both a proactive and reactive approach to drive positive change in portfolio companies and business sectors. In 2017 the council celebrates its 10th anniversary of developing the approaches, principles and processes that have made it a role model within the investment industry.

 

3. Anti-corruption always in focus

AP3’s principles are built on the core values of the Swedish government, for which democracy – equal worth, the freedom and dignity of all individuals, and sustainable development – are cornerstones. AP3’s core values are based on the international conventions signed by Sweden (including agreements on the environment, human rights, labour protection, corruption and inhumane weapons).

We do not accept bribes or corruption in any company in which we invest. However, it is difficult to invest in companies or sectors in which corruption does not exist, and for this reason we channel our anti-corruption efforts primarily through the Ethical Council’s preventive projects.

Corruption ruins values
Anti-corruption is and remains a key issue for the Ethical Council because corruption undermines legitimacy and economic sustainability, distorts competition and can destroy value. The Ethical Council engages with a large number of investees, and virtually all of its projects have an anti-corruption dimension.

The council has for some years hosted and participated in various anti-corruption projects, many under the aegis of the UN PRI. For example, it has participated in a project with 34 investors with combined assets of more than USD 2,700 billion under management. Dialogue with these companies was successful, and a number demonstrated improved anti-corruption practices, including a big improvement in transparency.

The Extractive Industries Transparency Initiative (EITI) brings together governments, companies and non-governmental organisations to improve transparency in mining and other extractive industries. EITI has played a long-term role in spotlighting transactions at national level so that companies which mine natural resources report their payments to governments in terms of royalties and taxes and the governments report their income. Ideally, the figures then match. The
aim is to improve governance through transparency and thus reduce corruption, poverty and armed conflict.

Tackling corruption is a challenge and AP3 remains committed to engaging with investees on various fronts to encourage anti-corruption measures.

 

4. Stewardship is pivotal to value creation

At AP3 we base corporate governance on three elements – engagement, action and positive change. With the help of these elements, we seek to deliver high-returns at a low level of risk over time. As an institutional investor with a major presence in the Swedish equity market, we can engage proactively and urge companies to embrace positive change. Corporate stewardship is a core element in the investment process.

 

Strategy based on ownership and principles
AP3 has a diversified portfolio of investments in more than 3,000 equities worldwide. We have elected to focus our stewardship on areas where we can achieve maximum impact, notably in Swedish investees (where our shareholdings are largest). Our Swedish equity portfolio consists of only 150 companies, but together they account for a large part of our portfolio.

Our stewardship of foreign companies is usually in close collaboration with other investors and channelled primarily via the AP funds’ Ethical Council. In 2016 the Ethical Council engaged with investees worldwide on human rights, environmental protection, corruption and similar matters.

AP3 engages in most governance matters, and in all cases we base our interventions on a sustainable development perspective and ethical principles. Issues of key importance to us in this context include remuneration system structure and diversity on corporate boards.

A process that takes time
Our governance practices are founded on the AP3 corporate stewardship policy, which is approved by the board of directors and revised as and when necessary. The stewardship policy incorporates the Fund’s basic corporate governance principles and our approach to environmental, social and corporate governance.

Effective engagement means using a variety of methods and tools. These include exercising our right to vote and speak at company general meetings, to hold seats on nomination committees and to engage in dialogue. Sometimes the impact is readily apparent, for instance when investors act to make changes at board level. But often the process takes time. AP3 has a long track record of working with other investors to moderate the remuneration of senior executives and to achieve greater gender parity on company boards.

 

5.Green bonds: From pioneer to leading investor

AP3’s investments in green bonds are a natural result of our desire to invest in instruments that offer long-term
sustainability. We became a green bond pioneer in 2007 when we made our first purchase in this asset class. Since
then, our investments have increased steadily and now stand at more than SEK 9.5 billion.

 

Climate change may have a major impact on the long-term returns on many assets and AP3 seeks to offset the financial risks that will arise from the transition to a low-carbon economy while also capturing the opportunities that will arise for companies involved in making that transition. Current regulations require us to hold at least 30% of our assets in tradable fixed income securities. These regulations and our desire to invest for the long term have led us to invest intensively in green bonds.

The capital raised by green bonds provides long-term financing for numerous projects in the climate and environmental field. All seek to limit the effects of climate change and to help companies to adapt to changing climate realities. In the long run, green bond investments will benefit the companies that
AP3 invests in.

Vasakronan – Sweden’s largest issuer of green bonds
Real estate accounts for close to 40% of energy use in Sweden. It is natural for Vasakronan, as Sweden’s largest real estate company, to want to reduce the energy load of its properties. The company finances much of its effort in this area with green bonds. Capital raised by green bond issues is earmarked for new construction and redevelopment projects, all of which are built to high environmental standards. Examples of environmental initiatives that Vasakronan has funded with green bonds include energy-efficiency through enhanced insulation, needs-controlled heating and ventilation, and energy-efficient lighting. Other projects include installation of water metering to reduce consumption, charging bays for electric cars, and solar panel installation for proprietary electricity generation.

Working closely with its tenants, Vasakronan has reduced energy use by 50% since 2009. By supplying its properties with renewable or climate-neutral energy, the company has reduced its carbon emissions by 100%. AP3’s investments in Vasakronan’s green bonds have helped the company to become more sustainable and profitable over time while creating a positive impact on the environment and climate.