The investment environment has undergone a structural change which will alter the way super funds manage their assets, warns Towers Perrin director of asset consulting services Paul Laband.
In the future, he says, trustees are likely to manage their investment portfolios far more actively and focus more keenly on risks.
Laband says in the momentum driven, investment climate of the 1990s, price to earning (PE) ratios were high because inflation and long-term interest rates were falling. But he says: “Prices behave differently in a period of movement to low inflation than they do in a period of low inflation.”
He doesn’t expect inflation and interest rates to go any lower, which means PE ratios will not improve. “This is not a normal economic cycle. In a normal cycle, activity is influenced by central banks. Interest rates are falling but they aren’t uplifting economic activity,” he says.
Global equity prospects are also being dampened by rising geopolitical tension and forecasts of slower world economic growth.
“Up until now, people have been trying to manage returns, but they are rediscovering risk in the new environment,” says Laband, noting that super funds will no longer be able to set their strategic asset allocation and then leave it for three years. They will have to review it more often because from time to time, the risk of keeping it will become high.
He adds that while returns will be lower, there’s no evidence that the volatility of returns has changed. This means managing downside risk will become more important in the medium-term. Not only should funds have more active managers than passive managers, they will also have to consider departing from sector benchmark positions and making portfolio tilts in areas such as emerging markets and small caps, says Laband.
