Institutional investors worldwide say it is challenging to find diversification among traditional asset classes, with more than half (54%) saying stocks and bonds are too highly correlated to provide distinctive sources of return, according to a recent survey by Natixis Global Asset Management. The survey also found evidence that alternative assets are taking on new prominence within institutional portfolios to help generate better risk-adjusted returns - the top priority of institutional investors in 2016.
“The events of the last month have shown the need for a sophisticated, balanced approach to asset allocation,” said John Hailer, chief executive officer of Natixis Global Asset Management in the Americas and Asia. “That’s part of the reason institutional investors plan this year to supplement traditional stocks and bonds by making an even bigger commitment to non-correlated, alternative assets.”
Two-thirds (66%) of institutional investors believe that an effective way of easing risk is to increase allocations to non-correlated assets, including private equity, private debt and hedge funds. Nearly half (49%) say it is essential to invest in alternatives in order to outperform the broader markets.
The Natixis survey of 660 institutional investors includes corporate, public and government pension funds, sovereign wealth funds, insurance companies, and endowments and foundations collectively managing more than $35 trillion in assets.
Institutions worry about their ability to fund liabilities in a volatile, low-rate market. In response, they are adapting their investment strategies, risk management approach and business operations to better meet their long- and short-term obligations.
Eighty-four percent of institutions say the low-yield investing environment is their biggest concern for managing risk, followed by generating returns (82%) and funding long-term liabilities (72%). Nearly seven in ten (68%) say meeting growth objectives and short-term liquidity needs is a challenge to their organisation.
Performance expectations in an active/passive world
While costs are top of mind for institutions and many will increase usage of passive strategies in more efficient asset classes, active strategies still hold favor for pursuing better returns overall. Currently, 64% of institutional assets are managed actively and 36% are managed passively. Fifty-eight percent of investors say that, over the long term, active investments outperform passive ones. And, in the next 12 months, 67% say economic factors, changing monetary policies and market volatility will be favorable for active managers.
The majority of institutional investors agree that active management is a source of alpha (87%) and better for accessing non-correlated asset classes (77%) and taking advantage of short-term market movements (71%). Ninety percent say passive investing is best for minimising management fees.
Rising need for LDI innovation
The vast majority of institutions are concerned over meeting their long-term objectives and are looking for more innovative LDI (liability-driven investing) solutions.1
Nearly three-fourths of institutions (72%) say they are concerned about their ability to fund long-term liabilities, and 68% say it is a challenge to manage uncertain liabilities linked to increased longevity. Although nearly three-quarters of institutions (73%) say they have tools to manage liability assets, 78% say institutional investors are looking for more innovative LDI solutions for today’s markets.
“Institutions can’t afford to underestimate their future liabilities,” Hailer said. “And yet that’s a risk as populations age and beneficiaries live longer. Institutions need products that help them to better manage these types of long-term liabilities. The findings of our survey continue to suggest that more LDI innovation is needed to help investors address this issue.”
Incorporating ESG investing
Many institutional investors (64%) say it has become increasingly difficult to achieve alpha. Half (50%) now see environmental, social and governance (ESG) investing, which considers those factors in investment analysis and decision making, as a potential source of return, and 51% say ESG assessments help mitigate headline-making risks. Most (95%) institutional investors are to some extent incorporating ESG strategies. More than three in ten (31%) of them do so primarily because it’s in their fund’s mandate.
About the survey
The Natixis Global Asset Management Institutional Investor study is based on fieldwork carried out in 29 countries. The online survey was conducted in October 2015 with 660 senior decision makers working in institutional investment. The findings are published in a new white-paper, Smart Money Never Sleeps, by the Natixis Durable Portfolio Construction Research Center. To download a copy, click here.