Time to Overhaul the Bond Portfolio

February 6, 2014 (PLANSPONSOR.com) - Corporate pensions will continue de-risking; allocations will shift with outcomes in mind, and rising interest rates are on everyone’s mind, says a report by eVestment and Casey, Quirk & Associates.

In the 2014 Global Investor Survey, investment consultants, institutional asset owners and intermediaries worldwide forecast significant fixed-income restructuring this year amid concern about rising interest rates and a jump in real assets investing.

Investors and their managers will continue to strengthen outcome-oriented investing, as investors splinter into more specific types of asset allocation and buying behavior. Asset owners worldwide want to design policy allocations around specific objectives, which differ from investor to investor, the report says.

The best example of how consultants and managers help clients implement outcome-oriented investing is the tremendous growth in liability-driven investing (LDI), according to Ben Olmstead, vice president of eVestment. “Many pensions found themselves in a fairly significant hole after 2008,” Olmstead tells PLANSPONSOR. “These same pensions became significantly more risk-aware. Managers and consultants then worked with the pensions to implement LDI structures very specific to each individual plan’s liabilities.”

Investor objectives are tied to what a specific plan is trying to achieve, Olmstead says. “For corporate pensions, this objective is often centered around providing for the pensioners in retirement. For an endowment of a nonprofit, the objective may be to provide grants to the causes that the non-profit supports. For a sovereign wealth fund, the objective may be to diversify the income being generated by a country to other non-commodity items.”  

The survey found corporate pension plans, realizing improved funding ratios after a heady bull market in 2013, expect to accelerate de-risking as they aim to immunize liabilities once and for all.

One primary theme that will guide portfolio changes is a broad concern with a rising interest rate environment. Pensions will find this a particularly sensitive issue. The survey indicates a continued realignment of fixed income, with 48% of all participants expecting to restructure their fixed income portfolios in 2014. Corporate plans continue to adopt LDI. Rate-concerned investors are delinking their portfolios from strategies that are sensitive to interest rates.  

“Corporate pensions, particularly in the United States, continue to move to LDI strategies,” Olmstead says. “Many of these LDI strategies continue to employ domestic debt as the primary asset class for matching liabilities. Corporate plans poured $11.4 billion into U.S. debt in 2011, $27.7 billion in 2012 and $41.4 billion in 2013.”

Evolving Strategies

Some evolution can be seen in LDI strategies for institutional plans, according to Olmstead. “Many of the initial LDI strategies were focused on shorter-term liabilities and the assets to meet those liabilities,” he says. “Newer LDI plans are being implemented by assessing the total liability and risk budget of the plan to help ensure that the plan is making the best use of its assets.”

Olmstead notes that eVestment is already seeing how a potentially sharply rising interest rate environment will affect bonds. “Institutional flows to floating-rate fixed-income strategies were over $40 billion during 2013,” he says. eVestment’s 240 factor Asset Flows Forecasting model predicts Global Floating Rate Bank Loan Fixed Income to be the largest gainer on a percentage basis due to institutional asset flows in 2014.

Other key findings include:

  • Rising interest rates were the biggest concern among all respondents, with an average of 53% citing this as a major concern;
  • Surging appetite for real assets as asset owners continue to diversify their alternatives portfolios. Real assets represent the largest category of new search activity for consultants in 2014, representing 14% of forecasted new search activity, versus 6% in 2013; and
  • Continuation of the long-term trend away from home-country-biased portfolios, driving the need for global data and analytics.

Casey Quirk and eVestment’s annual Consultant Search Forecast this year significantly expanded its pool of respondents by gathering information from more professional buyers of investment services worldwide. More than 65 investment consultants, representing some $3.7 trillion in assets under advisement, participated in the survey, which also polled more than 135 institutional investors of all types, accounting for $1.6 trillion in assets under management, and manager selection groups of large retail intermediaries.

Casey Quirk is a management consultant that advises investment management firms. eVestment provides tools for institutional investors to identify global investment trends, and select and monitor investment managers.

“Global Investors Survey 2014” can be downloaded from Casey, Quirk’s website.