China Investment Corporation will strengthen its investment capabilities in light of the relatively limited availability of private market managers, said Li Keping, the sovereign wealth fund's senior adviser and former chief investment officer.

His comments to AsianInvestor came shortly before it emerged that CIC would be making a huge increase in its already-large exposure to alternative assets, from around a third of its total allocation to more than half.

This rise in exposure will take place over the next decade, executive vice president Guo Xiangjun told state newspaper China Daily on September 26. CIC confirmed the accuracy of the comments.

Its alternatives allocation—mostly in private markets, but also including hedge funds and multi-asset strategies—has remained around a third since CIC’s inception in 2008 and stood at 37.24% at end-2016.

The fund, which turned 10 last month, surpassed $900 billion in August, a swift rise from $814 billion as of December 31. That suggests it plans to put at least another $100 billion into alternative assets in the next 10 years.

It had already signalled an increased focus on real assets and a cut in traditional bond exposure in its latest annual report, published in July.

CIC, like other institutional investors worldwide, is hunting for ways to boost returns in the current low-yield environment, which is widely expect to persist for some years yet.

Of course, doing so will be no simple task, amid fierce competition for—and falling returns on—such investments, particularly in illiquid markets such as private equity and property.

Capacity concerns

Capacity is one issue for the biggest asset owners, noted Li. For instance, allocating 20% of a fund that size to private equity would be difficult, he told AsianInvestor. “In public markets you can manage relatively larger funds, but in alternative markets it’s challenging.”

Indeed, the head of Norges Bank Investment Management, Yngve Slyngstad, in July reportedly said it was not worth the Norwegian state fund moving into private equity or infrastructure assets now. NBIM is not yet permitted to make such investments, and the amount it could allocate would not now move the needle sufficiently in terms of overall returns in any case, he noted.

Li Keping, senior adviser to China Investment Corporation

Another challenge highlighted by Li is the relative dearth of asset managers with the private markets expertise that CIC is looking for. For example, the fund makes substantial allocations to private assets in emerging markets, he said, but globally very few private equity firms invest in emerging markets.

“There is a lack of excellent external managers in [private markets generally],” Li noted. “And while you can select some good managers, they have limitations in terms of capacity.” 

Direct investment a priority

Hence building up direct investment capability is a priority for CIC. “In some areas [of private markets] we don’t have enough external managers to support our investment,” said Li. “So we need more internal ability to achieve our investment targets.”

Still, CIC relies heavily on third-party expertise: as of end-2016, it outsourced 66% of its portfolio to external managers. And institutional business heads said it is increasingly active in issuing RFPs for mandates across a wide spectrum of asset categories, including absolute-return fixed income, private equity and others.

Meanwhile, CIC has conducted research into unconstrained—or benchmark-agnostic—bond strategies, added Li. There are good reasons to give managers of certain mandates a lot of flexibility to deal with uncertainties, he said, but the fund has not yet sought a relatively larger or formal allocation to unconstrained strategies.

Li noted that the fund wants to ensure it remains within its investment guidelines, suggesting that some unconstrained strategies could be “too flexible”. Certain managers run all their products on an unconstrained basis, he added: “How can we manage that risk?”

On the public equity side, CIC has done research into so-called alternative or smart beta strategies—those based on indexes based on factors other than traditional market cap weighting. But as of a year ago, when Li was still CIO, it had not made any such allocations. CIC declined to say whether it has yet done so.

Li joined the fund as CIO in mid 2011 and stepped down in the second half of last year.

The full version of this article will appear in the upcoming October/November issue of AsianInvestor magazine, which will be out in the next week or so. The edition will also feature an extended cover story on sovereign wealth funds' allocation strategies and an in-depth interview with David Neal, chief executive of Australia's Future Fund.