Alternatives in demand
Universal-Investment’s latest investor statistics show how German institutions have started diversifying within alternatives
• Investor allocations on the Universal-Investment platform have stagnated at about 32%.
• Emerging market government bonds are popular.
• Alternative allocations have grown from €3bn to €23bn since 2011.
Since the inception of Universal-Investment’s investor statistics in January 2012, the assets allocated to German Spezialfonds have shifted from fixed income to equites. Given the current interest-rate environment and the performance of equities over the past years, this is unsurprising.
Equities lose momentum
Over the past two years, the equity allocation of investors’ portfolios has continued to rise, but now appears to be stagnating at 32% (figure 1). By and large, equity valuations have risen sharply in the same period. For example, the German DAX index rose by 10% between January and June this year.
The reason for this disparity lies in institutional investors reallocating the returns provided by equity investments, while maintaining an unchanged strategic allocation. These gains go primarily into alternative assets such as property, private equity or loans, as well as US and emerging market government bonds.
Fixed income at low levels
While equity allocations have remained stable within the portfolios over the past two years, fixed income has lost about 7 percentage points over the same time span, falling from 49.4% to 42.3%. In absolute figures, while the overall volume of assets analysed has risen by 30% since 2015, the funds allocated in fixed income have only increased by 14% – meaning investors allocate less to fixed income than other asset classes when making new allocations.
The exception confirming the rule is corporate bonds. Their overall share has risen by 27% over the past two years, almost in keeping with the overall growth of invested funds.
Within the fixed-income asset class, the percentage of corporate bonds has risen from 30% to almost 34%. This contrasts with the allocation to government bonds, which has fallen by almost 6 percentage points from 29% in June 2015 to 23.5% by June 2017. German Bunds witnessed the most pronounced reallocation, from €7.5bn in allocated capital at the end of 2011 to €5.9bn at the end of June 2017. This is a huge decline considering that the overall volume of assets on Universal-Investment’s platform has doubled over the same period.
In relative figures, this becomes even clearer, with German Bunds sinking from 7.7% of allocated capital to below 2.5%. At an interest rate close to – or even below – zero these assets are unattractive to institutional investors.
Looking beyond borders
But some government bonds remain attractive – the interest rate makes the difference. US government bonds, for example, have been on shopping lists for some time – their value has multiplied by a factor of seven, from €435m at the end of 2011 to €3.2bn by the end of June 2017, or from 0.45% to 1.37%.
This is also true for emerging market government bonds (figure 3), which have increased from a level below €1bn at the end of 2011 to more than €3.5bn by June 2017, a rise from 1.1% to 1.53%.
The investment decision does not focus on the usual suspects – such as Poland or Brazil. While the bonds of these two have doubled their volumes in investors’ portfolios over the last five-and-a-half years, they have not reached the growth levels of other, less favoured emerging market bonds. These include Malaysia, jumping from €17m to €164m. Chilean bonds managed a 14-fold increase and Thai bonds rose by a factor 0f 18, from €5m to €89m.
In absolute figures these are small sums if compared with the €6bn invested in Bunds. However, a trend towards smaller and far less visible government bonds cannot be denied. This suggests that due to the decreased default risk of these issuers, investors view their returns as more attractive compared with those from euro-zone issuers.
In the larger picture, however, positive developments in emerging market bonds cannot outweigh the downward tendency in fixed income. Overall, government bonds have decreased their share by nearly half over the past five-and-a-half years and are currently at 13.4%. Institutional investors are obviously turning to other asset classes that promise to meet their return requirements.
The rise of alternatives
Over the past years, institutional investors have turned to alternative investments to optimise their investment return-and-risk structures. Our statistics confirm this trend (figure 4). Since the end of 2011, invested capital in this asset class has grown from slightly below €3bn to €23bn by the end of March 2017. About half is allocated in equity instruments such as private equity, and 21% in loan capital such as private debt. Securitisations account for 26%, and hedge funds account for 3%.
Investors are diversifying within alternatives. While initially the focus was on renewables, this has now moved to infrastructure and private equity. Private debt investments are also coming into focus. As of March 2017, the capital invested in equity alternatives was €12bn. This includes infrastructure (34%), private equity (29%) and private equity real estate (11%). By selecting investments with a good risk-return ratio, investors aim to achieve a stable long-term cash flow.
Where loan investments are concerned (€4.6bn allocated as of Q1, 2017), corporate finance accounts for 57%, infrastructure loans for 21% and municipal loans for 7%. Further assets include ship financing at 7% and loans for renewables projects at 7%.
Likewise, property investments on the Universal-Investment platform have risen from zero to over €10bn. As in other areas, diversification is on the rise, including both geographies and sectors.
The long-term perspective
Despite a robust European economy and recent positive developments for the euro, the risk of regional turbulence and geopolitical danger is unmitigated and threatens investors with portfolio volatility. Tools like overlay management can reduce these risks, and appear to have helped investors weather the biggest storms over the past few years as evidenced by performance statistics, (figure 5). Since the financial crisis 10 years ago, investors have achieved an average performance of 3.8%. Not a bad result.
Markus Neubauer is managing director and Thorsten Schneider is head of institutional sales at Universal-Investment