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FTSE defined contribution funds to increase exposure to alternatives

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UK listed companies’ defined contribution (DC) pension schemes investment in alternatives is growing, with some schemes allocating as much as a third of funds to the asset class.

Research and analysis by asset manager Schroders showed that while 48% of funds within the FTSE 350 do not engage with alternative investments, those that do are increasing their allocations.

One-quarter of schemes now allocate more than 15% of assets to alternatives, with allocations at five funds breaking the 20% mark.

Average allocations have increased by 1 percentage point, between October 2013 and March 2014, to hit 8%, matched by a 1 percentage point decrease in allocations to fixed income.

However, the DC funds are still heavily overweight developed equities, which now account for 80% of all assets.

Emerging market listed assets are growing, but still only make up an average of 4% of portfolios.

The proportion of schemes allocating to emerging markets is reducing, as volatility in the region, particularly among equities over the last 15 months, continues.

Less than half of FTSE schemes (48%) invest in the markets, compared with 55% in March 2013.

The growth in alternatives is rising through the use of diversified growth funds (DGFs) as DC default investment vehicles.

DGFs mainly invest in equities but utilise additional measures such as derivatives and diversify more with the use of alternatives, in order to reduce volatility and increase returns.

Recent research conducted by consultancy Towers Watson found significant growth in the use of DGFs among FTSE 100 schemes.

The proportion using a DGF as all, or part, of their default investment strategy increased from 10% to 70% over the last five years.

This coincided with a drop in the use of passive investment vehicles, which fell 22 percentage points, to 40%, among the trust-based DC arrangements.

Separating the funds among FTSE 100 and FTSE 250 firms, DC schemes at the larger end of the scale tend to be slightly more adventurous and diversified.

Over the last six months, the data showed FTSE 100 schemes shifting assets towards UK equities but remaining more diversified than their smaller peers.

FTSE 250 firms reduced allocations to emerging market equities, down to 2%, while FTSE 100 allocate as much as 5%.

Stephen Bowles, head of DC at Schroders, said: “All these pension schemes that are not diversifying their assets are missing the valuable growth and low-volatility benefits, which can be achieved through diversification opportunities.”

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