Of the 22 investors polled for this month’s Focus Group, seven feel that credit has become more important in their fund’s portfolio over the past five years, and a further 10 believe it has become slightly more important. Only two rate credit as less important.
At the same time, respondents feel that recent pension and insurance industry regulatory developments have had a mixed impact on their ability to invest. Four think the trends are moving in the wrong direction. “Regulation destroys sensible asset allocation since it only focuses on capital requirements,” said a Dutch fund. “We see legislative changes, which is positive, but the regulator has ignored the industry’s comments and has left some contradictory restrictions in the legislation,” stated a Latvian fund. A UK fund added: “Local government investment regulation is completely out of date and not fit for purpose.”
Then there is the question of how difficult some of these strategies might be to implement. Asset-backed securities (ABS), multi-asset strategies and absolute return or long/short credit strategies are those where investors have most confidence in the ability of the asset management industry to provide suitable products for pension funds, in sufficient size. They are less confident about direct lending, project finance, and infrastructure debt.
A UK investor said: “There has been an increase in funds seeking to capture the market in loan finance that is not being filled by bank lending. Many do not have the depth and breadth of resources that banks have and their fees far outweigh what banks would charge for servicing such portfolios. I am sceptical whether or not these will be able to manage such loan portfolios effectively or whether they are just hedge funds looking for the latest opportunity.”
Investors are not particularly positive about consultants assessing asset managers’ competence in credit strategies, either – especially for ABS, direct lending, syndicated loans and project finance. A UK fund said: “The mainstream investment consultants I have met are out of their depth in the more esoteric credit strategies. To their credit, they have occasionally brought these products to the table.”
Almost three-quarters of respondents think most institutions can get involved in asset classes like loans, ABS and direct lending on some level. A Latvian fund said: “The only restriction is knowledge. Pension funds must have capacity to dig through and understand how these products work and what their risks are. European-wide pension events would be very helpful in this respect for smaller pension funds to get access to the experience of others who are already investing in these asset classes.”
At present, 17 funds have investment grade corporate bonds in their portfolio, while two are considering it. Fourteen funds have emerging market debt, nine have high-yield bonds, eight have multi-asset fixed income or credit strategies, and seven have asset-backed securities.
A surprisingly high number, nine, have an allocation to loans – four via syndicated loans and five through direct lending. A further six have plans in this area. By contrast, only two have infrastructure debt in their portfolio, but a further eight are considering it.
Asked about their role in long-term financing, 11 were split between those who said that their one-and-only focus was the fiduciary duty to members, and those who acknowledged the importance of pension funds as providers of long-term capital. One UK investor said: “Our funds are a vital part of the long-term financing in all of the economies in which they operate. We provide liquidity in parts of the curve where individuals and many short-term-oriented investment managers and institutions cannot or will not.”