Many large, institutional investors have between 75% and 85% of their allocation in long-dated Triple-A or similar bonds. Whenever a bond matured, they could simply reinvest it in another 10-year Government Bond. No real investment skill was required for that, but this game has come to an end. Insurance companies in Germany, for example, have currently only 3-5% in equities. That means the yield environment is putting these institutions with their back to the wall. They must move sooner or later.
So it’s probably a good thing a new administrative guidance on the investments of insurance companies now allows up to 7.5% of the committed assets in alternative investment funds. And by January 2016, with Solvency II, there will basically be no boundaries for insurers. As long an insurer has the capability to measure risk, they can invest in almost anything.
But we’re running out of time. When the current low interest rate environment continues for more than two or three years, nobody knows how many insurance companies will face significant issues. We will sooner or later read a headline in the newspaper that insurance X is bankrupt. It may therefore not be enough to allow say a 75% allocation to alternative investment. Maybe the next step needs to be to a mandate that the insurers or other investors who are in distress actually have to invest in those asset classes and strategies. Buying a zero yielding bond means you are just destroying assets — so maybe the paradigm has to change from “now you can invest in alternatives”, to, “now you have to.”
And those insurers are not alone. Many listed companies are now forced to contribute more cash into their corporate pension funds which are all underfunded. This means less cash for the corporates, shareholders may at some point revolt. And similar to the insurance companies, we may well see further acceleration of this problem.
Whatever may come, whether interest rates stay low for some more time to come or increase sooner, both scenarios need a conceptual amendment of the investment strategy of the past.
Alternative investments are part of the solution, but many still see them as “risky”
Most experts agree that alternative investments are part of the solution. But still, many German and other institutional investors will still have a certain fear or hesitation to use them, even if their regulations allow. For some, alternative investments are synonymous with “risk”, but of course, if you dig deeper, you will find alternative investments are not generally more risky. A lot of hedge fund strategies, for example, are even less risky than being for example in credits right now, or investing into high-yield bonds.
The trend is irreversible: more and more investors invest into alternatives. Some treat them as an alternative to fixed income. Another approach to the alternative asset class is from a real asset perspective. Especially during the heights of the Euro crisis, many investors started to think about investing in real assets. A further way to approach alternative investments is to build a bucket in a portfolio that seeks pure diversification. Alternative Strategies like Global Macro, Insurance Linked Securities, Equity Market Neutral and CTA strategies are usually the ones that are at the top of the agenda. Over time, as those institutional investors get more experienced with alternative strategies, this alternative bucket could grow over the next 10 to 15 years to reach quotas like 30%, from the 5% we see today.
Why foreign asset managers will benefit most from coming flows
The number of successful boutiques that set up in Germany over the last decade is probably not more than five. This is more or less a nightmare for the biggest economy in Europe, as foreign asset managers should be able to capture the bulk of assets going forward. But that does not mean marketing in Germany and Europe will be easy. This Roundtable gives clear guidance how to best market and communicate from overseas into European economies.
The Opalesque 2015 Germany Roundtable was sponsored by Eurex and WTS and took place in May 2015 at the office of Feri in Bad Homburg with:
Amin Obeidi, CAIA, Senior Asset Manager Pensions, Nokia
Harald Sporleder, Investment Style Leader and Fund Manager, Allianz Global Investors
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