BlackRock Survey Finds Institutional Investors More Open to Risk-Taking in 2017

61% of these investors globally are favoring allocations to real assets such as commodities, timber, infrastructure and farmland.

By Poonka Thangavelu

Institutional investors are more inclined to take an active stance to their investments in 2017, and reduce reliance on cash holdings, according to a BlackRock survey of 240 large institutional investors. The New York investment management firm reports that while 25% intend to cut down on cash holdings this year, only 13% planned to increase their cash exposure.  

These investors are also looking to chase higher yields and look beyond the core asset classes. They have been moving towards less liquid assets for the past three years, and that trend also is evident in the current survey. In recent years, investors have been hurt by the low-rate environment, which has evened out the recent uptick in stocks. They have also been impacted by the underperformance of global equities and negative returns on fixed-income investments.

And considering the prospect of an inflation pick up this year, institutional investors have become more open to taking on risk, according to the survey. “The tide of institutional investor interest in less liquid assets is turning into a wave, with a significant uptick in allocations anticipated as they seek alternative ways to generate returns and income,” according to Edwin Conway, Global Head of the Institutional Client Business at BlackRock.

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Accordingly, 61% of these investors globally are favoring allocations to real assets such as commodities, timber, infrastructure and farmland. About 53% of US and Canadian institutions are looking to increase their exposure to real assets on a net basis, after accounting for those looking to reduce their exposure. Institutions also favor real estate allocations, with 47% globally planning to increase their exposure. And 29% of US and Canadian institutions favor this investment, after accounting for reductions in real estate allocations by some. Private equity is another sought-after investment avenue, with 48% globally and about a third in the US and Canada, on a net basis, looking to gain more exposure to this investment category.  

Institutional investors are also looking at private credit as a fixed income investment that offers the prospect of higher returns, with 61% of the respondents looking to take on more such exposure. They also favor US bank loans, high-yield, emerging market debt, and securitized debt for higher allocations in non-core credit areas. US and Canadian investors expect their exposure to fixed income allocations to remain flat.

Hedge fund investments are becoming less sought after, with 22% more corporate pension funds globally, led by US and UK funds, looking to cut down their exposure, after accounting for those inclined to increase their allocations to hedge funds. The investors are moving more towards bonds of long duration. Worldwide, only 28% of investors favor active equity strategies over passive strategies. Corporate pension plans lead the drive for US and Canadian institutional investors to reduce their equities holdings, with 34% of institutional investors on a net basis expecting to reduce their exposure.

And in a PIMCO asset allocation outlook report for 2017, Mihir P. Worah, PIMCO’s CIO asset allocation and real return and a managing director, and Geraldine Sundstrom, PIMCO’s portfolio manager, asset allocation, expect overall that the environment for 2017 will likely provide active managers many opportunities to make a mark by adding value.

They state, “We face a future where position on the business cycle, trends in earnings growth, as well as fiscal, tax, and trade policies could favor certain regions, industries and sectors over others. This should lead to – and has already – greater dispersion and less predictable correlations, making passive investing risky, and bottom-up analysis just as important as top-down macro.”

BlackRock conducted this survey in November and December 2016, after the election of Donald Trump as US president. The 240 institutions surveyed account for more than $8 trillion in assets.

Milliman Study: Public Pension Plans See 4Q Funded Ratio Decline

Investment income of $11 billion was overshadowed by outflows of $26 billion.

By Poonka Thangavelu

Public pension funds for the most part remained underfunded in the fourth quarter of 2016, according to a study by Milliman, with their funded ratios dipping to 70.1% in the fourth quarter, from 71% in the third. Milliman finds that the funding status of the 100-largest US public pension funds declined $54 billion over this period, while their deficit rose from $1.338 trillion to $1.392 trillion.

Although these plans enjoyed average investment returns of 0.45% for the fourth quarter, making for investment income of about $11 billion, their outflows of about $26 billion overshadowed this income, as the benefits they paid outpaced the contributions made.

The fortunes of the pension funds varied, with 25 plans at a funded ratio of less than 60% (four of these pension funds were dangerously underfunded, with a funded ratio less than 30%) and 65 pensions at a funded ratio of 60% to 90%. Ten of the plans enjoyed a funded ratio higher than 90%.

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Becky Sielman, a Windsor, Conn.-based consulting actuary for Milliman, said, “Besides the significant investment losses in the financial crisis, another significant headwind for funded ratios is that public plan sponsors have been steadily lowering the interest rate assumptions. And that causes the liabilities to go up and therefore causes the funded ratio to fall. Both of these contribute to the funded ratio we see today.”

While corporate pension plans tend to tie their interest rate assumptions to current market rates on high-quality bonds, these public pension funds’ interest rate assumptions, which they don’t change on an annual basis, are based on the expected long-term returns on their portfolios, which have been decreasing.

The underperformance of individual funds may also occur if the plan sponsor hasn’t been making sufficient contributions to the fund for an extended period,, or perhaps because the plan has granted benefit improvements that have not yet been funded.  The public pension plans that are flush with funds, have been conservative over the years. The New York State Teachers’ Retirement System, for instance, enjoys a funded ratio of 110.5%, according to Milliman.

John Cardillo, a spokesperson for the plan, points out that critical to this success is the uninterrupted flow of employer and employee contributions to the plan over its history. “This has allowed us to remain committed to a disciplined, risk-controlled investment approach that focuses on thoughtful diversification of assets across a broad spectrum of capital market segments,” Cardillo said. Moreover, the plan has decreased its costs by managing a big part of its investments in-house.

Sielman noted that these pension plan-funded ratios go through ups and downs, and one that is underfunded today might have been well-funded 10 years ago. “It is difficult to make broad generalizations about these plans. Each one is a very different story and where they are today is a function of what’s happened over decades,” she said.

She expects that if investments earn the rates expected by these pension funds in the long term and plan sponsors make the contributions that their actuaries recommend, and if there are no major improvements that aren’t funded immediately, the contributions by the plans “should be sufficient in the fullness of time to bring each plan to a fully-funded position.”

The study’s methodology was based on the pension plans’ financial reporting information disclosed in the plan sponsors’ Comprehensive Annual Financial Reports, which reflect measurement dates ranging from June 30, 2014 to December 31, 2015. It was calculated against market performance and the Standard & Poor’s 500 index, and assumed plans rebalanced to keep the same allocations. This is Milliman’s first year presenting quarterly updates, and there is not yet a margin of error.

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