Grant Forster

An independent survey by CREATE-Research, commissioned by Principal Global Investors, has revealed a fundamental shift in the mind-set of investors. The priority for investors is now focused on adopting goal-oriented approaches that mitigate unrewarded risk, rather than chasing the highest potential returns.

As markets continue to defy previously held investment logic, investors understandably remain cautious. This has led to an increased demand for strategies tailored to take account of investor concerns and minimise unrewarded risk exposure.

The shift, a by-product of a sustained low rate environment, marks a fundamental change in investor attitudes rather than a short-term trend.

Grant Forster, CEO of Principal Global Investors Australia, commented: “The financial crisis taught investors a number of lessons, but a key takeaway for all was greater caution. Investors have become more risk-aware and more agile than ever before. In 2013, the quest for yield was evident. In 2014, as caution has become more embedded in the investor psyche, investors have recalibrated their return expectations.

“While the debate around active versus passive has been resurgent, the real focus of the industry should be on adapting investment solutions to the new goal-oriented and risk-adverse mind-set of investors worldwide. Customisation is the name of the game.”

This fundamental change in attitudes can be seen in the behaviour of all four different investor groups.

• DB investors are turning to real assets and alternative credit because inflation protection and regular income have gained importance over high returns, and phased diversification is preferred over asset maximisation.
• DC investors continue to favour life-cycle funds thanks to their time-based, tailored approach. These funds support the goal of downside protection as they adjust to varying market conditions and the risk-appetite of investors at different times during the market and life cycle.
• Retail investors are displaying a general acceptance of lower yield with solutions alpha gaining importance over product alpha.
• High net worth investors have moved away from a blanket focus on alpha to an emphasis on risk mitigation. They have become particularly cautious in developed markets and especially demanding in emerging markets in order to manage unrewarded risk. A preference for active management remains.

Professor Amin Rajan, CEO of CREATE-Research and the author of the CREATE series, commented: “While the investment environment remains challenging, investors want two things: low-cost options to meet their perceived needs and assets that can deliver specific goals. The latter includes capital growth, regular income, inflation protection and capital conservation. This is the age of goal-oriented investing.”

Key global trends in asset allocation and investor preference for certain asset classes that have developed between 2012 and 2014, include:

DB investors

• The popularity of real estate has increased by 26%, from 40% in 2012 to 66% in 2014 while infrastructure has experienced an equally significant increase of 23%, from 43% to 66%.
• The popularity of alternative credit has increased by nearly 20%, from 38% to 56%.

DC investors

• Target-income funds recorded the largest increase in investor interest of 22%, from 34% in 2012 to 56% in 2014.
• Target-risk funds saw an increase of 14%, from 36% to 50%.
• Target-date funds, an increase of 12%, from 52% to 64%.

Retail investors

• Funds with an income focus have become the most popular choice over the last two years with an increase in investor interest of 14%, from 48% in 2012 to 62% in 2014.

High Net Worth investors

• Real estate has become notably popular, showing an increase of nearly 25% in investor interest, from 37% in 2012 to 61% in 2014.
• Investors continue to prefer active management with an increase of 25%, from 29% in 2012 to 54% in 2014.

Principal Global Investors is an investment solutions provider catering for all four investor groups. The full 2014 report, Not All Emerging Markets are Created Equal and the asset allocation paper,Asset Allocation: No Longer One Size Fits All, are both available at: create.principalglobal.com and www.create-research.co.uk.

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The report, entitled Market Volatility: Friend or Foe, provides a view of the challenges and opportunities presented by market volatility.  It surveyed 289 respondents including asset managers, pension plans, pension consultants and fund distributors from 29 countries with a combined AuM of over US$25 trillion. The survey was followed by 100 interviews.

Prof. Amin Rajan, CEO of CREATE-Research and the report’s author, comments:
 
“The last four years have been the most volatile in the history of equity markets. Price fluctuations of 4% or over in intra-day sessions have occurred six times more than they did on average in the previous 40 years. Extreme spikes in market volatility and closer asset class correlations have been common.  History shows that opportunity is inherent in periods of high risk and that high risk can reward active management.  Investors want to know whether asset managers can convert market volatility into an investment opportunity.”
 
The headline findings suggest that the asset management industry faces significant challenges in converting the opportunity of persistent volatility into investment performance.  71% of asset managers in the study signalled that prolonged market turbulence offers great opportunity for active managers to deliver good returns.  Conversely, only 13% believe that the industry can currently capitalise on this. 
 
The report identifies four key actions that respondents believe asset managers should take to overcome the challenge and prevent another ‘lost decade’ of returns: develop multi-asset class capabilities (53%); ensure interests are more aligned with clients to share pain and gain (53%); encourage free thinking and high conviction investing (50%), and promote greater client engagement to minimise risk (66%).
 
Grant Forster, CEO of Principal Global Investors Australia, comments:
 
“What this report clearly signals is that the asset management industry must take urgent and specific action if it is to capitalise on the inherent opportunity in volatility for clients. 
 
“It’s never been more important to partner with clients and provide customised solutions based on their changing needs and investment goals. In Australia in particular, where there is more soul searching about asset allocation than any other country, the Report has shown that Asset Managers have been – and will be – enhancing their capabilities across a wide range of asset classes, after a clear acceptance of two facts: that the domestic equity market is now susceptible to the contagion effect of globalisation; and that new opportunity sets are vital if the managers are to maintain their relevance in a fast changing pension landscape. At Principal Global Investors, we have relationship managers focussed on understanding and delivering against client needs and align our compensation with the results – we don’t succeed unless they do.”
 
The report reveals that investors, like asset managers, see opportunity in volatility, but that their requirements of asset managers have changed. Specifically, in an environment of prolonged uncertainty, they no longer see risk on / risk off trades as a binary choice and are becoming more goal-orientated, managing risk more than return.
 
In practical terms, this means investors, most notably Defined Contribution (DC) and retail, will seek a more dynamic asset allocation strategy; blending elements of both risk on and risk off.  The study reveals that managers believe 49% of Defined Benefit (DB) clients, 45% of DC clients and 47% of retail clients will de-risk as well as re-risk and that they will use a variety of avenues:
 
DB clients:

• De-risking – Liability-driven investment strategy (LDI) (57%), diversification (56%), and fiduciary management (44%)
• Re-risking – absolute return strategies (45%), unconstrained mandates (37%), active trading strategies like hedge funds (34%) and high conviction investing (32%)

DC clients:

• De-risking –advice-embedded products (55%), diversification (52%) and capital preservation tools (38%)
• Re-risking – dynamic glide path strategies (48%), absolute return strategies (27%) & high conviction investing (24%)

Retail clients:

• De-risking – diversification (48%), advice-embedded products (46%) and capital preservation tools (36%)
• Re-risking – active trading strategies (34%) and absolute return strategies (28%)

Grant Forster, CEO of Principal Global Investors Australia, continues:
 
“The effectiveness of diversification has been a topic of debate over the last few years. One of the most compelling insights from the study is that investors’ views about risk and return are evolving rapidly, calling for a more dynamic approach to managing volatility. Many Australian investors are now opting to manage their own funds in a Self-Managed Super Fund, a hugely popular option with an emphasis mostly on de-risking. Most supers in Australia are expected to move away from the traditional 70:30 equity-bond mix un favour of the old balanced approach but with two big differences: a very broad asset base and the facility to implement tactical changes.“A nimble business structure that allows the craft of asset management to thrive along with a focus on risk management and long-term investment are imperative to executing dynamic strategies in turbulent markets, whether it is for capitalising on volatility or capital preservation.”
 
The full report is available at: www.createresearch.co.uk and www.create.principalglobal.com

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