Commodities a better bet than inflation linkers, says DB Advisors

Deutsche Asset Management's institutional arm is mulling specialist products to offset the effects of inflation, as the firm rebuilds its Asia-Pacific business.

Inflation-linked products are theoretically “the ultimate hedge”, as they will provide the purest offset to rising prices, but investors seeking a boost to returns from inflationary trends are better off buying real assets like commodities, says Peter Kerger, Asia-Pacific head of DB Advisors in Singapore.

Commodity prices rise during crises, he explains, whereas inflation-linked bonds only do well if there are more price rises to come. “Commodity markets look at recent history to decide what is coming next, whereas inflation linkers are really just pricing in the expectation premium for the next wage round, and will only be rewarded if it comes true,” adds Kerger.

Inflation linkers are “a bit cumbersome”, he says, adding that Deutsche Asset Management (DeAM) – of which DB Advisors is the institutional business – is trying to find other solutions to the inflation-hedge problem that would fit with its plans to be a niche player in Asia.

That said, inflation-linked funds could well prove to be moderately successful, given worldwide anxiety over inflation*, chiefly due to record high and rising food and fuel prices, which many – including the International Monetary Fund this month – argue could be here to stay.

Moreover, DeAM’s mutual-funds arm, DWS Investments, is increasingly seeking a foothold as a niche player in Asia, led by Singapore-based Rajan Raju, who joined last year from DBS, where he was head of consumer banking.

DeAM is not about to challenge well-established fund managers by, for example, setting up a typical Asian equities fund, says Kerger. Rather, the plan is to be a “niche player” offering less common products that are complementary rather than core to a portfolio or fund of funds.

He cites as an example a special inflation-linked fund, which has been proven and has traction in Europe and can be transferred elsewhere. “In places like Australia, you see more and more discussions around those kinds of products," says Kerger, "but there’s a lack of products in that area.”

Looking at the situation for central banks, their foreign reserves are in fixed income and dollars – which are not providing strong returns. Asian currency yields are not so good either, with the odd exception, such as Indonesia.

“So if you want 6% or 7% returns, you really need to branch out,” he says. “You don't achieve those yields any more unless you really look at everything, but you need that liberty to invest across the board.”

This is resulting in a couple of consequences, says Kerger. Some institutions are trying to find dynamic asset-allocation solutions, while others are looking at niche products such as hybrids – for example, distressed European sovereign debt. “Perhaps that's the next thing to look at?” he adds.

Kerger points to very strong interest in the first quarter of 2011 in absolute-return multi-asset investing in various forms and sizes of mandate – from $50 million to $500 million – from pension funds in Asia.

Meanwhile European investors, for their part, are showing increasing interest in Asian fixed income in US dollars and local currencies, and for exposure to commodity-based currencies – such as South African rand, Australian dollar, New Zealand dollar, Canadian dollar, Norwegian kroner and Russian rouble.

They are seeking exposure to those currencies in a mandate format, not so much a hedge but an exit from Europe-focused strategies that haven’t worked out so well, says Kerger, and he sees such investments potentially attracting interest in Asia.

He has also seen interest from Europe in Chinese thematic equity – getting exposure to China through non-Chinese stocks.

DB Advisors has around 25 sales staff and the same number of investment professionals in Asia, the former spread across the firm's eight regional offices and the latter located in the Philippines, Singapore, South Korea and Taiwan.

DeAM spun off its Hong Kong operations to Beijing-based Harvest Investment Management in 2008to form Harvest Global Investments, in which the German firm holds a 30% stake. There are two people at Harvest GI in Hong Kong on the sales side representing DeAM.

And in Australia, DeAM sold its fixed-income operations in 2006 to Aberdeen Asset Management, although it does maintain a small sales office there. “Australia is largely a distribution centre for us,” says Kerger, “and the large institutional pension funds there are starting to look more at Asian [investments].”

He adds that the firm is slowly rebuilding its Australia business in new niches, such as fixed income with an environmental, social and governance overlay – these kinds of approaches have received traction in Europe and are attracting interest now in Australia.

Meanwhile, DeAM's property investment arm, RREEF, still allocates money out of Australia and Hong Kong; it has some Hong Kong clients, but is focusing more on the mainland. RREEF is also slowly rebuilding its business after a difficult couple of years.

* AsianInvestor and FinanceAsia will be running a conference 'Navigating inflation in Asia' on May 5.

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