DB Portfolio Restructuring Main Driver of Investment Manager Search Activity

June 25, 2007 (PLANSPONSOR.com) - International equity remained the most popular product category for global investment manager searches, followed by US equity, according to Mercer Investment Consulting's (Mercer IC) newly released data on investment manager search activity for 2006.

Among Mercer IC’s clients, there were 143 international equity searches accounting for nearly $29 billion, or just over 31%, of total assets placed. There were 76 US equity searches with more than $4 billion in assets placed.

During 2006, Mercer IC advised on 741 manager searches globally, representing $92.3 billion in assets placed. The firm reports significant growth in search activity in Asia where searches handled by Mercer IC nearly doubled to 83 in 2006.  Overall there was continued growth in search activity for non-traditional asset classes, according to a news release.

DB Portfolio Restructuring DrivesU.S. Search Activity

According to the Mercer IC trends report, the main driver for U.S. defined benefit and other non-defined contribution searches was portfolio structure change, including:

  • Increasing exposure to international investments , as investors seek diversification from domestic markets, and as smaller plans continue to gain comfort with this asset class. While EAFE searches declined in 2006, search activity in global equity and non-US fixed income increased significantly, according to Mercer IC.
  • Diversification into non-traditional investments . While real estate search activity remained the same in 2006, hedge fund of funds, single strategy hedge funds, and private equity fund of funds activity increased.
  • Rebalancing between growth and value, and small cap and large cap equities .

Mercer IC said it expects more DB and other non-DC search activity to be generated as plan sponsors increase the frequency of asset liability studies and adopt new methods of portfolio analysis and risk budgeting.

As panel members at PLANSPONSOR’s DB Summit last December pointed out, new pension accounting rules issued by the Financial Accounting Standards Board and Government Accounting Standards Board, requiring companies to measure pension assets and liabilities on their balance sheets will prompt plan sponsors to utilize new investment strategies as well (See  New Accounting Rules Require New Investment Strategies ).

Most Popular Searches

The Mercer IC data showed the most popular DB and other non-DC search mandates in 2006 were:

World ex U.S./EAFE Equity – 18 searches with over $900 million in assets placed

  • U.S. Large Cap Growth – 14 searches with over $1 billion in assets placed
  • U.S. Small Cap Growth – 9 searches with over $450 million in assets placed
  • U.S. Mid Cap Growth or Value – 7 searches with over $450 million in assets placed

Within non-traditional investments, Mercer IC saw increased interest in both hedge fund of funds and single-strategy hedge funds among large and mid-size plans, and in real estate and private equity among large plans.

The firm said it expects Indexed mandates to continue at the same pace as some sponsors choose indexing to implement the core component of a core satellite-portfolio structure.

DC Search Activity

Search activity decreased for the DC market in 2006, but is expected to remain at the same level for 2007. According to the trends report, the main drivers of investment manager search activity for DC plans are:

  • Performance and expenses will continue to be carefully scrutinized in 2007 and could generate search activity if some managers continue to underperform against performance policy standards.
  • Continued interest in reducing and simplifying the number of investment options , which could result in searches to implement new line up structures.
  • While some plans are reducing the number of options, other plans continue to expand the number of asset classes available to participants , including lifecycle, emerging market equities, and Real Estate Investment Trusts (REITs).

Mercer IC speculates there were be increased focus on target-year lifecycle funds and non-U.S. Equity and Mid Cap Equity mandates. In addition, the firm expects increased use of separate accounts and commingled funds as alternatives to mutual funds in response to past mutual fund trading issues, growth in DC assets, and greater scrutiny of fees.

For search activity among U.K. clients, the data showed a notable increase in bond searches. According to the report, the majority of the searches were U.K. Aggregate (Government plus Corporate) in the Core Plus space. U.S. Fixed Income, Global Equity, and U.K. Equity saw the most investment manager search activity among U.K. clients in 2006.

Although there is an ongoing trend of reduction in equity exposure for U.K. schemes, Mercer IC said it expects search activity to remain significant, especially for global equities. The firm also expects an increase in activity for most non-traditional asset classes.

Canadian Activity

Among Canadian clients, following the removal of investment limits on foreign holdings in February 2005, equity search mandates declined in favor of foreign equity mandates, the report said. Prior to the effective date of the rule change, a Greenwich Associates study found more than 25% of institutions expected to increase their allocations to foreign investments within six months of the rule change and another 30% said they would do so within a year (See  Canadian Foreign Property Rule Change To Benefit US Bond Market ).

Mercer IC data also showed interest in U.S. Large Cap for both DB and DC clients and interest in Large Cap Growth among Canadian clients.

Globally search activity was generally at similar levels for 2006 as in 2005, but activity picked up in the Asia Pacific region and tailed off in Europe (excluding the U.K.), Mercer IC said.

The most popular asset classes by region, according to the report, were:

  • Asia - Global Fixed Income
  • Australia - Property
  • Europe (excluding U.K.) - Global Equity
  • New Zealand - Global Fixed Income

The Mercer IC report also included country-specific data for countries in the Europe (excluding U.K.) region.

Copies of Mercer IC's Manager Search Trends: 2006 Year-End Report cost $1,500 and can be purchased at www.merceric.com/managersearchtrends .