There's a current trend for institutions across the globe to boost their exposure to fixed income, in the form of high-quality government and corporate debt.
It's understandable that institutions are seeking less volatility and more liquidity in this way in response to the recent and ongoing turmoil, but their timing "could not be worse", argues Robert Pozen, chairman of US-based MFS Investment Management. They appear to be unaware of the possibility of interest rate risk, he says, addressing the audience at the AsianInvestor Summit in Hong Kong yesterday.
"It's hard to look at the deficit situation in the US and Europe and not see interest rates going anywhere but up," says Pozen. But while interest rates have started to tick up in some countries -- such as Australia, India and Malaysia -- no one knows when rates will rise in each market.
By boosting their fixed-income allocations, pension funds are effectively locking in their long-term funding liabilities, says Pozen. "So these big moves into fixed income seem a little unwise."
"A better move to me would be inflation-linked or emerging-market bonds," says Pozen, adding that such instruments have performed well in recent years and are not strongly correlated with US Treasuries or the S&P 500, for example. (At this point he quips that MFS has a strong emerging-market bond portfolio.)
Pozen also highlights an increasing shift away from domestic equity towards global equity, with Asia excluding Japan the exception to that rule. This is a move that seems sensible, he says, as low correlations serve as a good framework for building diversified portfolios -- despite strong convergence during the crisis.
Yes, the crisis saw significant convergence between otherwise uncorrelated markets, but from March to September last year, Pozen argues, those same markets became very uncorrelated once more. "And if you don't have a long holding view you ought not to be an equity investor anyway," he adds.
A third big trend Pozen highlights is that many institutions -- such as state and municipal pension funds, which are substantially under-funded post-crisis -- are boosting their allocations to alternative investments to try to plug that funding gap. Some may not have much experience doing so, but they are "shooting for the moon" because they're "so far in a hole", says Pozen.
He says there has been some aggressive bargaining by institutions on fees charged on both hedge funds and private equity firms, and he expects that to continue. "We've seen groups of collective bargaining units informally formed by public and private pension funds," adds Pozen. "I think we will see some real pressure on private equity and hedge fund fees."