Importance of keeping global equities as part of a balanced portfolio
Noel Hillmann: What are the current challenges facing insurers and pension funds, and how do you see this impacting asset allocation decisions?
Anton Wouters: The challenges are two-fold, first there is the current general environment in financial markets with low yields and sometimes volatile markets so that is purely based on the more financial management of the portfolios.
Secondly, you also have to keep in mind the regulatory part of the portfolio especially on the insurance side as it can also influence asset allocation. If I look at the financial market perspective, the low yields are there and that hurts both funding ratios of pension funds and solvency ratios of insurers. They have to find a way to cope with low yields, growing liabilities and make up for that additional return on liabilities with a good mix of asset classes in the portfolio so that they can achieve higher returns than on their liabilities, given the current circumstances.
From the regulatory side, pension funds and insurers are confronted with the fact that an optimal portfolio in an economic sense is not always the optimal portfolio in a pure regulatory sense, they have to combine the two to find an optimal portfolio.
These challenges are quite big and on top of that, the low yield environment seems here to stay for the foreseeable future, especially in Europe.
Noel: As a fiduciary manager, how do you look at the outperformance of equities and what are the challenges and issues that you see?
Anton: If you look to how you would build a portfolio around your liabilities, regardless of whether you are an insurer or pension fund, in the end you have a number of fixed income orientated asset classes where you can at least have returns comparable to the liabilities. In essence you need additional return above the liabilities to grow your funding ratio or for insurance companies, have enough return to distribute to your customers.
One way or the other you have to have higher yielding assets in your portfolio.
Pension funds already have this attitude and have a reasonable portion of equity within their portfolio and although they are experiencing difficulties in the current climate they are not getting rid of it. They want to keep a certain allocation to equities and try to optimise this.
On the insurance side, the regulatory restrictions kick in, because with Solvency II equities are heavily punished in terms of capital that you have to hold. Here insurers have to find a way to still have reasonable allocation to high yielding assets, including global equities, whilst still keeping the regulatory capital contained.
Guy Davies: One of the areas we have to be mindful of is regulation and the impact that it can have on time horizons for investment objectives. This can have an impact on the ultimate investment strategy that is put into place and the degree to which the strategy is actively managed.Download to read more