News & analysis
Pension schemes ditch liquidity in favour of stable returns
Institutional investors in the UK have continued to reduce their equity expo- sure in 2019 and are turning instead to less liquid assets, private credit appears to emerge as a new favourite.
Investors are willing to trade liquidity in favour of predictable returns. More than half of all institutional investors globally are planning to increase their allocation to pri- vate credit over the next five years, according to Schroders Institutional Investor Survey. This trend is also tangible in the UK, where 23% of investors plan to make allocations to illiquid assets, with private credit stand- ing out as the most popular asset class in the alternatives portfolio, according to Aon’s Pensions Risk survey. For DB schemes, private credit has become an important element of their cash-flow driven investment strategies, some 16% of CDI portfolios are now invested in the asset class, according to a RiskFirst Survey. One example is RPMI Railpen, the £30bn pension scheme aims to increase its private credit allocation by 40% in the next year, amounting to a total of £4.5bn to be
allocated across two funds. Besides direct lending, the scheme is also looking to invest in credit risk transfer securities. As the DC investment portfolios are grow- ing in size, they are also increasingly warm- ing to alternative investments. This includes NEST, which committed to up to £1bn in private credit investments to be allocated over three funds. While the scheme aims to invest the money over the course of the next 12 months, it also stressed that it does not intend to “force money into the market”. This highlights an important challenge pension schemes might be facing: The lack of suitable assets to invest in. By the end of 2018, alternative asset managers already sat on nearly $1trn (£770bn) in dry powder, according to a study by JP Morgan Chase & Co. A more recent McKinsey survey esti- mates that the volume of dry credit in private markets could be as high as $2.1trn (£162bn).
Another challenge is the growing preva- lence of cov-lite lending agreements, loans that offer lower levels of protective cove- nants for the lending party. According to JP Morgan Chase & Co, some 80% of all new loans issued in the US were cov-lite, sug- gesting that the market has turned in favour of the borrower, at the expense of the lender.
Anticipated investments in illquids Private equity Real estate Infrastructure equity Bulk annuities Private Credit 25% 27% 29% 33% 47%
Source: AON, Pensions Risk Survey 2019 0
10 20 30 40 50
Firms accused of “banking on Brexit” count their losses
Investors accused of betting on the out- come of the Brexit process are reporting red figures.
Long-short investors and currency traders attracted a lot of negative publicity over the past month, facing growing accusations that their short positions against UK-listed firms and the pound were attempts of “banking on Brexit”. Politicians from both sides of the political spectrum pointed out the apparent conflict of interest for asset managers such as Odey Asset Management, which holds signifi- cant short bets against UK firms exposed to Brexit risks, while its founding partner Crispin Odey is also a prominent donor for the Vote Leave campaign.
Critics of this argument point out that the evidence that short positions are motivated by Brexit is scant, most hedge funds base their positions on quant strategies rather than geopolitical macro strategies. Most of their biggest short bets, from Thomas Cook to Debehams are firms that were facing challenges
regardless of the Brexit
outcome. Moreover, one of the biggest hedge funds accused of banking on Brexit, Marshall Wace, is jointly run by a pro-Brexit (Paul Marshall) and a remain advocate (Ian Wace).
Another argument that has been missing from the debate is the fact that many of the biggest hedge funds accused of banking on Brexit have indeed faced their own finan-
6 | portfolio institutional | November 2019 | issue 88
cial challenges, illustrative of the broader challenges of long-short investing. Odey Asset Management’s earnings fell by 72% between 2017 and 2018, resulting in an earnings drop of £4m, the firm dis- closed. In September alone, it’s European fund lost 12.7% of its assets, year to date it fell by 18.1%. Similarly, US hedge fund AQR Capital Management faces significant outflows in its long-short strategies, is Multi-Strategy Alternatives fund performed -9.48% year to date, while its equity market neutral fund is down -8.83%, year to date. Ironically, if those hedge funds were listed on the stock exchange, as some asset man- agers are, they might well be holding short bets against each other.
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