November 1, 2023

How to Allocate Your Assets, by Top Consultants

Class of 2023 Knowledge Brokers give their thoughts on allocation strategies in a higher-interest-rate world.

Reported by Larry Light

Art by OYOW

Consultants play a big role in guiding institutional investors’ allocations and strategies. To hone in on some of their insights, we asked CIO’s 2023 list of the most influential Knowledge Brokers about what they see as the best opportunities these days, given higher rates and other seismic changes.

To Elizabeth Burton, a senior investment strategist in the client solutions group at Goldman Sachs, reducing correlation among investments is a vital mandate. She noted that there are private/public pricing disparities on which allocators can capitalize. For public funds, these lie most often in credit; for endowments and foundations, they are within equities.
Another hunting ground for lowering correlation is outside the U.S., Burton advised. Four ‘D’ trends help drive this, she said: demographic shifts, deglobalization, decarbonization and digitization. In addition, central banks across the globe have different interest rate policies, she added, which should provide for reduced correlations across regional exposures.

Indeed, investing abroad is a must, in the eyes of Eileen Neill, a managing director and senior consultant at Verus. Some of her clients are leery of geopolitical turmoil, especially due to a more assertive China, and thus are sensitive to the risks of investing internationally, she observed. But she doubted that investors should abandon “the prevailing theory that the broad global market offers the highest risk-adjusted returns versus a home-country-biased portfolio structure.”

Furthermore, updating assumptions at least yearly should be at the core of investors’ standard operating procedures, Neill indicated. Updates should occur more frequently, she said, if large shifts occur in the key economic drivers of rates, inflation and the economic environment.

“For example,” Neill went on, “this year, my firm produced a mid-year capital markets assumptions update to our suite of assumptions that reflected the large movement in both rates and valuations since year-end 2022.”

Meanwhile, the increasing allure of fixed income, due to higher rates, is a positive trend, said Tim Filla, managing principal in and consultant at Meketa. Amid the era of “extremely low interest rates, many investors were forced to reduce fixed-income and credit allocations and accept additional risk to achieve their objectives,” he recalled.

Today, though, bonds and their ilk have seen yield jumps of at least two percentage points—“and that means there are more options available for investors solving for return targets of 7% or higher,” he said.

The result of higher rates, said Brady O’Connell, a consultant and shareholder at Callan, is that “pressure to reduce fixed income in favor of equities and illiquid investments has abated substantially.” Therefore, “allocations to core bonds will see modest increases going forward.” Also, O’Connell continued, investors will continue to allocate to alternatives “where liquidity allows it.” Up ahead, look for an allocation movement to alts from stocks, he predicted.

A slightly different take comes from Allan Martin, an NEPC partner, who pointed to the rising rates that began in 2022 as a game-changer, saying, “The 40-year [low] interest rate super-cycle has ended, and capital markets are only beginning to reflect an environment of higher discount rates and an increased cost of capital.” To him, that means a “greater exposure to equities, public and private.” To balance that, he recommended strong exposure to Treasury bonds, as well.

The best idea, declared Ryan McGlothlin, a managing director at Agilis, is to get a good strategy and stick to it. “Most of the time,” he said, “you should do nothing.”