When one hears “alternative assets,” hedge funds might come to mind. But alternative investments nowadays are that and much more. With assets in ’40 Act liquid alternative funds expected to double to nearly $500 billion by 2018, according to Strategic Insight, these funds are likely to appear on many retirement plan menus. Alison Cooke Mintzer, editor-in-chief of PLANSPONSOR and PLANADVISER, spoke with Rob Capone, executive vice president and head of BNY Mellon Retirement for BNY Mellon Investment Management, about the growth in such alternative investments and what plan sponsors need to know.
PS: How have defined benefit (DB) plan investment trends affected the defined contribution (DC) plan landscape?
Capone: There are two major areas. One of the big investing trend differentials is diversification. Greenwich Associates in 2012 did a study on the average DB asset allocation and, comparing that to the Callan DC Index around the same period of time, found that the average DB allocation is 60% weighted toward U.S. equity and U.S. fixed income. Yet, the average DC allocation, as measured by Callan, is 80%. That 20% difference reflects the better diversification that DB plans have around alternatives, real assets, international equities and emerging markets.
Since 2006, Callan has stated that the average DB plan has outperformed the average DC plan by 180 basis points. Now, there could be some reasons and rationale behind that, over and above the differences in the underlying asset-class exposures, but I happen to think that diversification goes a long way toward explaining the performance disparities. That’s one area.
The second area is professional management. DBs have always had the benefit of a corporate treasury team or dedicated investment team managing the plan. In DC, however, you’ve never had that, per se. The advent of the target-date fund (TDF) is really the first we’ve seen in DC that can at least attempt to look like DB-style investing.
PS: Can you describe the growth that has been happening both in traditional alternatives and liquid alternatives?
Capone: In DC plans, anything beyond those traditional style boxes, I always say, are alternatives. That’s not the general view of what an alternative is.
Historically, DC was a plan that was designed to maximize return. Since the crisis of 2008, the goals of the plan have had to change. Talking to sponsors now, there are a few key themes: the need to manage volatility, manage downside risk and, frankly, address the potential impact of inflation.
When we try to broadly diversify, the one goal is to add asset classes that specifically address those issues. When I look at alternatives, anything that is global—as an example—could be, potentially, an alternative within a DC plan. If you’re trying to reduce home-country bias or equity risk with truer diversification, look at global or emerging market strategies. If you’re trying to hedge against inflation, to protect participant purchasing power, then you want some exposure to real assets. Real assets could be Treasury inflation-protected securities (TIPS), real estate investment trusts (REITs), commodities, natural resource equities—any of those.
Then, if you are looking to achieve more diversification within the portfolio with strategies that are less correlated to equities, that gets into liquid alts. That’s your exposure to something that could be absolute return strategies or hedge fund replication.
Those types of alternatives are more prevalent now than ever, due to the shifting global markets and shifting global economies.