Some of the biggest state investors are due to fall well short of fulfilling their liabilities based on their current asset allocations, according to analysis of interviews with 20 such entities by Towers Watson.
Asian sovereign funds in particular should be thinking more about the best way to take on more risk than how to do more investing in-house, said Jayne Bok, Asia-Pacific head of sovereign advisory at the investment consultancy.
Twenty of the world's largest sovereign funds, controlling $6.4 trillion in assets between them, have an average portfolio exposure of 41% to equities, 34% to bonds and 25% to alternatives. Towers has labelled these “The Worldies”, and they comprise seven institutions from the Americas, seven from Europe, the Middle East and Africa, and six from Asia.
This average allocation would result in 10-year nominal annual returns of 5.2%, noted Peter Ryan-Kane, Asia-Pacific head of portfolio advisory at Towers. That’s far too low if they are to meet their liabilities, he said.
“Even with all the complexity and sophistication of the Worldies’ asset allocation, they are paddling hard, but not getting very far,” added Ryan-Kane.
One area where most Asian sovereign funds are lagging is in investing overseas, although that will change over time as their assets continue to grow, said Bok. Singapore's GIC is among those leading the way on this front, having been a buyer of foreign assets since 1990; its offshore team numbers 350 of its total headcount of 500.
This is a particularly big proportion of total staff. Dutch pension fund APG, which has 94% of its $505 billion in AUM overseas, has 140 staff offshore out of 650. And Canada Pension Plan Investment Board (CPPIB) has 110 of its 1,000 employees overseas; a significant amount given that it only started putting a presence in other countries in 2008.
How to internationalise the allocation is one of the big issues exercising the management at state investors in Asia, noted Bok. She cited a 400-page report put together by Towers Watson in recent months for a sovereign client on what its peers are doing in this regard.
Another area of analysis in the Worldies research looked at what is the optimal mix of external versus in-house portfolio management.
Some models, such as that of US endowments or Australia's Future Fund, outsource most if not all investing, while others, such as the big Canadian state pensions, do most of it internally. Most Asian funds have decided the latter is the way to go and ask 'what can I learn from CPPIB and Ontario Teachers?', said Bok.
“However, rather than thinking ‘how do I internalise more’, what might be more constructive is to think more about how to do things that will increase your risk conviction,” she noted. This would make more sense than spending a lot of time and effort on trying to bring in investment talent in a part of the world where it’s harder to find than it is in Canada, added Bok.
Another Towers suggestion for Asian sovereign funds is that they perhaps focus too much on areas such as portfolio monitoring/reporting and implementation issues and not enough on early-stage issues such as being clear on what their objectives and investment mission should be. Ryan-Kane argued that they can add more value by doing so.
Of the many issues raised in Towers Watson's interviews with the CEOs and CIOs of sovereign funds, Bok and Ryan-Kane pointed to six they felt were particularly acute for Asian institutions.They were: benchmarks and reference portfolios; talent and reward; insourcing/outsourcing; systematic beta; private-market allocations; and portfolio complexity.
“We have picked these out as what might be the main priorities [for Asian sovereigns],” said Ryan-Kane. He hopes that these can be addressed over the next three to five years, and “then we can have scope to start to work on some of the others”.