The world’s largest pension pot will soon have to choose between political sensitivities and cold hard returns.

With FTSE Russell set to proceed with a plan to add Chinese debt to its benchmark global bond index from October, Japan’s Government Pension Investment Fund will now have to decide whether to put its money into China’s sovereign debt, or risk lower returns elsewhere.

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Investing Japanese pension money in Chinese government debt is likely to be a politically unpopular decision for the $1.63 trillion GPIF, considering the historically tense relations between the two countries. Those relations may get even frostier if Japan bows to pressure to join other major democracies in imposing sanctions on China.

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Yet it might not be easy for the fund to ignore high-yielding Chinese debt while also meeting its benchmark returns, with yuan-denominated debt already excluded from the actively-managed portion of foreign bond holdings. China’s 10-year notes yielded around 3.2% Wednesday, well above the 0.5% equivalent on the FTSE gauge.

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“It’ll be important for the fund to evaluate China’s risks properly by strictly focusing on its governance and its ability to service its debt,” said Takatoshi Ito, an economist at Columbia University who formerly headed a Japanese government panel to reform the GPIF.

Japanese Resistance

The GPIF’s decision will also be crucial for other Japanese public and private pension funds which have been mulling opportunities to invest in Chinese government debt.

Read more @Bloomberg