Several Forces Will Drive Portfolio Positions for Institutional Investors

The pandemic, monetary policy and politics converge to drive changes to equity and fixed income allocations.

Institutional investors overwhelmingly believe the market will not recover from the effects of the COVID-19 pandemic until 2022 or later.

The Natixis Investment Managers “Global Survey of Institutional Investors,” conducted by CoreData Research in October and November, included 500 institutional investors in 29 countries throughout North America, Latin America, the United Kingdom, continental Europe, Asia and the Middle East. Forty-four percent of those surveyed said the economy will recover in 2022 and 27% said it will recover in 2023.

More than three-fourths (74%) indicated that improved consumer spending/sentiment is most important to signaling economic recovery in their country.

During a webinar discussing the findings, Jack Janasiewicz, senior vice president, portfolio manager and portfolio strategist, Natixis Investment Managers, said consumption matters the most, and that, in the U.S., about 70% of the economy is driven by consumption. He explained that the general trajectory of the stock market depends on growth prospects, but it can deviate quite a bit. “For example, the S&P 500 is manufacturer driven, while the economy is consumption driven. That is why the stock market soared even though the service industry is faltering,” he said.

Janasiewicz pointed out that the impact from monetary policy across the globe has been extremely accommodating, but income replacement and consumption are what are important now. “There’s an old adage that the Fed can lend but not spend,” he said. “What will matter is the size of the next stimulus package and its composition—whether there will be straight giveaways versus loans that have to be repaid.”

The Natixis survey found that 95% of institutions globally see the potential for a market correction in at least one sector during 2021. Janasiewicz said expecting a correction is a good sign; it shows risk appetite could go higher.

Institutional investors surveyed also said they are more concerned with policy than politics, with 78% saying central bank policy has more of an effect on markets than elections. Esty Dwek, head of global market strategy, Natixis Investment Managers Solutions, told webinar attendees that regardless of who is president, central bank policy has been the most important factor affecting equity markets. However, she said, a fiscal stimulus is important. “We absolutely need a fiscal stimulus and increased unemployment benefits in order to continue to boost the economy,” she said. “In 2021, politics will matter more than central bank policy than before.”

Institutions surveyed projected value investments (58%) will outperform growth investments (42%). Eight in ten (82%) said current valuations do not reflect company fundamentals and the same number went so far as to say low rates have distorted valuations. Nearly eight in ten (79%) institutional investors said the market will favor active managers in 2021, and two-thirds of institutions predicted actively managed investments will outperform passive investments.

“[Institutional investors] will want active managers to pick good opportunities while still getting a good deal [on costs] in relation to intrinsic value,” Dwek said.

Asset Allocations

What does all this mean for public and corporate pension and other institutional investors’ asset allocations going forward?

Institutional investors surveyed said they anticipate the sectors that outperformed in 2020 will continue to do so in 2021. Two-thirds (66%) expect technology to outperform in 2021, a margin 55% higher than those who say it will be down. With promising news of at least two new vaccines, institutions see health care outperforming in 2021. Consumer staples are also predicted to outperform—the pandemic stockpiling of home essentials such as toilet paper and paper towels contributed to nearly a 9% gain in the sector as of November. Conversely, institutions see pandemic trends continuing to play out that will lead to underperformance in a number of sectors including real estate, materials, utilities, financials and industrials.

Still, institutional investors reported that they do not project any dramatic shifts in their overall allocation plans. While 43% say they are likely to maintain their current positions in equities, 32% say they will trim U.S. holdings. Those assets will likely go to Asia Pacific, emerging market stocks and Europe.

Regarding fixed income, institutions are most concerned about addressing their top portfolio risk: negative interest rates. They plan to up investment grade corporates, securitized debt and high yield corporates. Conviction runs high on green bonds among those invested. Dwek said lower interest rates are forcing institutional investors into investments they don’t want to have or are forcing them to increase duration. Janasiewicz added that all economic effects will lead to lower rates, and there is a concern about negative yield on a real basis. “Institutional investors might have to consider emerging market, high yield or moving into equities,” he said.

Among those who own them, alternative allocations appear to be the Swiss Army knife in 2021 plans, Natixis said in its survey report. The hunt for yield is reflected, as close to half of survey respondents said they will increase investments in private debt. They are looking to up allocations to gold and precious metals, as well as absolute return strategies in terms of risk management.

“With the pandemic, politics and global economies at an inflection point. Institutional investors are positioning their portfolios to navigate short-term volatility while anticipating the long-term impacts of this year’s massive economic and market interventions,” said David Giunta, CEO for the U.S. at Natixis Investment Managers, in a press release. “Investors’ cautious outlook reflects deep concerns about the lasting consequences of the extreme measures needed to cushion the financial blow of the pandemic. However, they also see opportunities to find value through active management, thoughtful portfolio allocation and diversification.”

“The COVID economy, politics and policy, and an increased focus on valuations, are all colliding to shape institutional portfolio strategy in the year ahead,” Dave Goodsell, executive director of Natixis’ Center for Investor Insight, said in the release. “But even when faced with what they see as a risky landscape, institutional investors believe investment opportunities can be found. Those who know where to look will likely be the ones to outperform.”