Okay, that is a bit wordy and awkward as toasts go, but it captures a point. When a lifetime of benefits is defined by contract, to any degree (whether a pure DC plan or a hybrid), somebody’s early death is somebody else’s investment gain. And vice versa.
Bearing on that point: Natixis Global Asset Management has just released survey results on the views of pension fund managers and other institutional investors about markets, interest rates, and the challenges they as asset managers face now and in the near future.
The short version: Institutions are optimistic about equities in 2015; they are upbeat about U.S. equities in particular. But they are looking for ways to reduce portfolio risk over the coming year, and they are moving into liability-driven investment strategies. A lot of respondents think their industry as a whole has been quite slow about moving in the LDI direction.
The survey had 642 respondents. Of these, more than half agree that traditional assets are too correlated to provide them with the diversification they need. Further, three-quarters agree that markets are becoming more efficient around the world. And since it is inefficiency that allows for alpha, that isn’t good news for asset managers.
Having a Lot at Stake
Here are three more percentages: 87% of institutions responding to the survey said they are confident they will be able to meet their long term obligations; somewhat fewer (80%) said that the generation of stable returns near term is a challenge; and 60% said the industry has not been sufficiently innovative in developing LDI strategies.
One risk specific to pension funds, the above-mentioned risk that people may live longer than expected, has been at the forefront of the development of LDI for the last two decades. It has also been behind the even older trend away from defined benefit systems altogether.
According to Economics 101: assets freely traded will end up in the hands of those best able to make productive use of them, and liabilities freely traded will end up in the hands of those best able to bear them. LDI as an analytical challenge has always been about getting liabilities into those hands.
John Hailer, president and chief executive officer for Natixis, says that pension funds in particular “have a lot at stake as the portfolios they manage today are an important source of tomorrow’s income for the world’s aging population.”
The survey also encompassed socially responsible investing, which nowadays often goes by the initials ESG, representing the incorporation of environmental, social, and governance issues into investment decisions. Many institutions say that they believe ESG can be both a source of return (54%) and a risk-reduction measure (55%). Litigation cost, social discord; environmental disaster all count among the risks managers want to avoid.
“Even as they perceive stocks as next year’s best investment category, institutional investors are cautious,” said Hailer. They are more likely to add to their value investments than to the riskier positions in their portfolio going forward. “They want to avoid being upended by a big swing in the markets.”
In that wary spirit, the survey’s respondents are concerned that interest rates won’t remain at the low levels of these “quantitatively eased” recent years. Two thirds expect troubles over the next three years linked to rising interest rates. Four fifths say that they will face challenges as a consequence of volatility over that period.
Thus, institutional investors are ready to respond to increasing rates by moving from long to shorter duration bonds, by reducing exposure to fixed-income assets, and (36% say) by increasing their exposure to alternative strategies.
Twenty-eight percent predict that alternative investments will be the strongest asset category in 2015. They expressed confidence especially in private equity within the alternatives world.
Only 13% predicted that bonds would be the best-performing asset. Even smaller slivers favored real estate (7%), energy (3%), and cash (2%).
The survey was based on fieldwork in 27 countries. Respondents, senior decision makers in their institutions, were interviewed in October and November 2014. The institutions included pension funds (corporate, public, and government); sovereign wealth funds; insurance companies; endowments and foundations.