Interest rate risk has toppled tail risk as the issue cited by institutional investors in Asia as most likely to affect portfolio performance over the next 12 months, finds an Allianz Global Investors survey* due for release today.

This is despite recent indications that the US Federal Reserve will maintain low borrowing rates until the US job market improves – and it has been showing only stuttering growth in recent months.

Tail risk – cited as the most pressing risk in the fund house's last RiskMonitor survey in October – has dropped to fourth place, behind equity market risk and credit risk. This may be because 64% of surveyed Asian asset owners say they have improved tail-risk analysis.

Fears that interest rates may be set to rise means institutions in the region are looking to allocate more of their assets into riskier classes, in particular equities and alternatives, over fixed income.

“The trend from the last survey continues in a way that the so-called great rotation continues, although at a much slower pace,” says Elvin Yu, head of institutional business for Greater China at AllianzGI. “If you look at the risk profile as a spectrum, I think it is fair to say that everyone is moving a notch up, whether it is from fixed income to equity, or equity into alternatives.”

Significantly, 23% of respondents from Asia say they will boost exposure to domestic equities, while the same proportion intend to raise their international equity allocation. Emerging market equities are less favoured, with 13% of respondents expressing bullishness on the asset class.

Appetite for domestic equities is especially high in Japan, where 36% of respondents say they will increase allocations at home.

The outlook for domestic equities in Japan has improved partly because the country’s $1.3 trillion Government Pension Investment Fund decided to increase its equity allocation at home, and the Nippon Individual Savings Account scheme encourages investment through tax incentives, Yu tells AsianInvestor. Moreover, markets in the US, Europe and Japan have rallied, he adds.

While Japan’s Topix stock index has lost nearly 10% year-to-date, it gained 50% in 2013 thanks to the country’s Abenomics-based stimulus measures.

Increasing general appetite for equities is being accompanied by falling appetite for fixed income, the report says. Most notably, 16% of institutions say they will reduce their allocations of developed market sovereign fixed income in the coming 12 months.

Because of risk tolerance constraints, many asset owners have to maintain some allocation to fixed income. As investment-grade debt offers low yields, many investors are moving into high yield, with 14% of respondents in Asia – and a notable 25% of Korean investors – intending to increase their allocation to the asset class.

Asian investors are generally keen on investing into alternatives, with 18% saying they are most keen on real estate and private equity.

Respondents in Singapore are more eager than investors in other countries to invest directly into property, with 25% of those polled there looking to increase their allocation to realty.

Hongkongers are the keenest on private equity, with 30% of those surveyed saying they will increase allocation to the asset class.

Despite the growing popularity of alternatives, respondents raised concerns about valuing assets and measuring risk for such investments. Conventional risk-management tools are not perceived as effective for alternatives, the report says.

Commodities and private equity topped the list of asset classes for which risk management needs to be improved.

*The German fund house’s six-monthly RiskMonitor reports poll institutions’ opinions on investment risk and asset allocation. This edition surveyed 403 asset owners with an aggregate of $20 trillion in assets under management. One-quarter of respondents are from Asia.