Many institutional investors say they are likely to reduce their return assumptions for the coming 12 months as they have become more challenged in their quest for generating returns, according to a survey by Natixis Global Asset Management, Boston. In a survey of 500 global institutional investors, managing $15.5 trillion in assets, , 75% report that it is becoming more difficult to generate alpha, considering that markets are becoming more efficient.
Other factors impeding their quest for better returns include market volatility, growing risk and low levels of yield. As a result, these investors are looking to higher-risk investments to deliver the higher returns they seek. However, 75% of the investors surveyed say that many of these institutions may be taking on too much of a risk in order to generate acceptable returns.
According to David Giunta, Natixis CEO for the United States and Canada, “While risk factors change over time, the challenge for institutional investors remains to deliver long-term results while navigating short-term market pressures. Given their mandates, avoiding risk is not an option for institutional investors.” Many institutional investors are looking to avenues beyond the “traditional 60/40 portfolio construction” to give themselves better odds of meeting their return requirements. Many have increased their exposures to equities and alternatives, and are also looking to less liquid assets and private markets to get better returns.
Alternative investment strategies are of interest to 56% of institutional investors who look to hiking up their exposure to such investments.
Private equity offers the potential to generate higher alpha than traditional asset classes, according to 67% of the institutional investors. Private equity also offers more scope for diversification than conventional stocks, according to 55%.
Private debt also offers better risk-adjusted returns than conventional bond investments, say 73% of them, with the infrastructure, healthcare and technology, media and telecommunications sectors offering the best prospects for returns. Other debt investments they would consider hiking up their exposure to include direct lending (44%) and collateralized debt (34%).
Also of interest are real assets, such as real estate, infrastructure and airport financing, with 34% reporting they are interested in increasing their exposure to these investments in the next 12 months, with the goal of generating higher returns. In addition to diversification strategies and exposure to alternative investments, institutional investors are looking to better manage their risk exposure through risk budgeting (87%) and currency hedging (75%).
A greater focus on liquidity by regulators is impeding the ability of these investors to invest in alternatives, they believe. For instance, greater liquidity requirements have created a bias towards shorter investment horizons. Considering that some of the liabilities of these investors – who include corporate and public pension funds, foundations, endowments, insurance companies and sovereign wealth funds – have very long-term horizons, this is creating a challenge. Thus, a major concern for these investors is how to balance their “long-term growth objectives with long-term liquidity needs.”
Environmental, social and governance (ESG) factors also hold sway, with institutional investors looking to such factors both to make investment decisions and to select managers. More than half of the investors look to ESG investing to come by alpha. And the same 58% see ESG investing as a way to better manage headline risk in form of lawsuits or environmental issues, for instance. A good 62%report that ESG factors will become “standard practice” in the coming five years.
As they expose themselves to additional investments, institutional investors also face challenges in getting a grip on the total risk exposure across their portfolios and are turning to outsourcing to provide certain specialized services, with 42% looking to outsourced CIOs or fiduciary managers. And to better manage their liabilities, institutional investors are also looking to hedging strategies, inflation-linked bonds and conventional bonds, as well as alternative investments. Even with the use of such “liability-driven” investing approaches, 62 percent of the institutional investors surveyed expect that most organizations will not meet their long-term objectives.
By Poonkulali Thangavelu