UK - Fund managers are urging schemes to let them use derivatives in their bond mandates which will, they claim, reduce risk profiles substantially.
Schroder Investment Management, Aegon Asset Management and Standard Life Investments are all starting to offer structured products to schemes, which they say eliminates duration risk from bond portfolios.
Fund managers say that by using derivatives they can extend the duration of portfolios beyond the normal lifespan of the bonds to meet schemes’ liabilities.
Axa Investment Managers product specialist Vincent De Martel said: “Derivatives can be used by schemes in order to adapt returns to match their liabilities.
“Matching liabilities using conventional assets is sometimes just not achievable where pension liabilities routinely extend beyond 40 years. It is interesting to note that over 90% of the world’s top 500 companies use derivative instruments to manage and hedge their risks more effectively.
“Any scheme with over 30% in bonds should consider the use of interest rate swaps, in order to address mismatch risks.”
Barclays Global Investors head of strategic clients Mike O’Brien argued that using derivatives should be standard practice for bond investors.
He said: “Once you get into fixed income it is difficult not to use derivatives. There is a perception that fixed income is a pretty simple asset class but it’s not. It’s much more complicated than equities and investors are waking up to this.”
But Hymans Robertson senior partner George Henshilwood agreed that derivatives could make portfolios more efficient but warned schemes to be wary of how fund managers used them.
He explained: “The worry is that fund managers could use derivatives for strategies where they probably wouldn’t have done. That’s what worries me, and the problem is explaining these things to trustees, which can be difficult.”
De Martel disagreed: “As a consequence of the Myners report, trustees are increasing their knowledge of investment matters and will, therefore, be in a position to understand derivatives better than they did in the past.”
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