Stratification is happening within fixed income portfolios, Helen Fowler reports
Pension funds around the world are requiring more specialised skills from their fixed income managers. As the role of fixed income within portfolios changes, pension funds are looking for asset managers that can either add value or reduce risk.
Asset managers like PIMCO, and Swisscanto, as well as global consultants, say clients have begun asking for a very specific set of skills – for example those who specialise in credit or sovereign debt. They’ve also started splitting up mandates within the portfolio – for example separating low-risk investments from high-yield ones.
Consultants report seeing this trend in countries such as the UK, US, and the Netherlands. In March Pensionskasse Kanton St Gallen, the £4bn ($6.4bn) Swiss local authority pension fund, gave a €70m mandate to Legal and General Investment Management (LGIM) to invest in its actively managed Euro Credit Corporate Bond Fund. At the same time, the fund has reduced its exposure to indexed international government bonds.
In addition, The London Borough of Waltham Forest Pension Fund revealed earlier this year that it was looking to appoint a specialist active bond manager for a mandate worth around £70m. The move is part of a strategy aimed at splitting up the scheme’s fixed income assets to extract more value.
Splitting up mandates is a way of de-risking a pension fund’s assets, said Mercer’s head of fixed income research, Paul Cavalier. The riskier assets are kept in one pot, and the more conservative instruments in another. If a scheme is winding up its life, it makes more sense to focus on liability-matching investments in fixed income.
Up until around 2008, most fixed income returns were tightly correlated to each other. That mitigated the argument for spreading risks by setting up specialist mandates. According to Swisscanto’s head of fixed income David Byrne, pre-crisis the difference in return from a triple A bond did not differ that much from a single A security so it made sense to put all fixed income investments in one mandate.
However, post-crisis, people are paying more attention to credit ratings, which reflect the likelihood of one-off disasters striking. In consequence, returns have diverged, depending on a bond’s rating. “These once-in-a-lifetime events turn out to happen quite frequently,” said Swisscanto’s Byrne. “People are micro-managing everything they can.”
In the UK alone, as many as a quarter to a third of large (£500m and up) schemes are in the process of appointing specialist fixed income managers, said one consultant. And almost all of them are considering doing so, he added.
Whereas previously the average UK pension fund might hold all their fixed income investments in an aggregate fixed income account (holding a mixture of sovereign and corporate debt), nowadays many are likely to split up their holdings to a much greater extent.
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