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Funds should be more open about investment beliefs

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GLOBAL - Preliminary studies suggest pension funds that are public about their investment beliefs outperform their peers, but the vast majority make no such disclosures.

A research report for the Rotman International Centre for Pension Management in Canada, co-authored by Alfred Slager, CIO at the Dutch Stork pension fund, analysed data from more than 600 pension funds to explore the relationship between different ‘investment beliefs' and performance.

The report made a number of conclusions, including the finding that excess returns generated through asset allocation decisions and manager selection do not improve a pension fund's return-risk trade-off, suggesting that such outperformance is often "due more to market exposure than selection and exploitation of skills".

It also found that the largest funds can benefit from both greater net returns and lower costs by managing assets internally, but actively pursuing the latest innovative investment strategies will not improve performance on a risk-adjusted basis.

The study, Investment Beliefs that Matter: New insights into the value drivers of pension funds, analysed the performance and investment beliefs of pension funds between 1992 and 2006, on subjects such as active management, alternative asset classes and leading-edge investment strategies.

For example, a commonly held notion is that diversification is the only ‘free lunch' in investment management and should be exploited as much as possible. However, the study found that adding more alternative strategies "apparently offsets the return-risk improvement".

Larger pension funds particularly have the resources to diversify more widely into alternative and new innovative strategies, thereby earning first-move advantages. But the report also found that, while their size allows them to lower the cost of doing so, they tend to increase their use of cost-intensive strategies, "thereby offsetting potential improvements in return-risk relationships".

The report's authors, Slager, Kees Koedijk (Tilburg University and Centre for Economic Policy Research) and Rob Bauer (Maastricht University and pensions research institute Netspar), also complained that only a limited number of pension funds (40 out of 500) published explicit investment beliefs, a proportion they said had not increased in recent years, "despite the growing focus on governance and investments".

The situation also applied to consultants and fiduciary managers of smaller pension funds, although the report named Towers Watson as one of the investment consultants in the market for publishing investment beliefs.

Due to the anonymity of the underlying data, the authors were unable to analyse whether funds with published beliefs outperformed those without. However, when using data from a previous study written by Koedijk and Slager in 2007, and several means-difference tests with their latest figures, they found that those which published investment beliefs realised better return-risk ratios.

The report stated "this result is merely indicative and must be researched more thoroughly".

The lack of investment belief disclosure, combined with recent investor dissatisfaction over post-2008 investment performance of alternative and active managers "suggests that funds have ample room within their investment processes for improvement in developing, implementing and adapting beliefs that matter," the report concluded.

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