Energy income and optimal investment policy for the Alberta Heritage Savings Trust Fund

The present paper illustrates the impact of the inclusion of the economic value of government energy income in the optimal asset al1oc:ation decision for the Alberta Heritage Savings Trust Fund. Existing investment policy does not consider exogenous income when determining asset mixes. The result is an over-allocation of capital to energy stocks, higher volatility and lower expected utility among all government assets. Two tests are conducted to examine the differences in asset allocations when energy resources are considered to be a nontradable asset in an expanded portfolio and when the allocation decision only involves financial assets. The first test assumes that the existing asset mix is ideal. An optirniser is calibrated to produce parameter estimates that result asset weights consistent with exi:sting industry sector weights as of March 31, 2005. The second test uses parameter variables estimated using historical data. Associated Sharpe Ratios are compared to determine whether the investor receives an economic benefit from the new portfolio weights. When compared to existing industry weight!; within the financial portfolio, the optimal portfolio mix decision will always exclude energy stocks except in those instances where the nontradable asset is smaller than the optimal allocation to this industry sector. In the latter case, the values are highly improbable and so I conclude that the Alberta Heritage Savings kust Fund should not be investing its funds in the energy sector. I also show that over allocation. prevents the fund from more effectively diversifying its holdings.