As I have speculated in the past, institutional investors—pension funds in this example but also endowments, insurance companies, and so on—will likely reduce their equity exposure over the next decade or two. I have linked to charts that show bond exposure at multi-decade lows so there is only one way the asset allocation can go. Ideally, pension funds (and others) shouldn't have gone so far down with their bond allocation but it's really difficult to do that in real life for various reasons. (As a side note, the increased bond allocation will be one of the sources that fund government deficits going forward.)
Bloomberg has a story that may portend to the future:
The world’s biggest pension funds lost confidence in stocks as the best long-term investment, cutting holdings or leaving them unchanged during the steepest rally since the 1930s.
Funds overseeing money for California teachers and public workers, Dutch government retirees and South Korean private- sector employees reduced their target weightings for equities this year, data compiled by Bloomberg show. The rest of the 10 largest kept them the same. U.K. pensions have cut stock allocations to the lowest since 1974, according to Citigroup Inc. Managers handling Oxford and Cambridge University professors’ assets have been selling shares as the MSCI World Index posted a five-month, 51 percent rally....
Losses suffered in the worst decade for stocks versus bonds since at least 1900 drove pension funds to pour more money into fixed income, commodities and derivatives just as signs the global recession is easing helped equities rebound from the MSCI World’s biggest annual drop on record.
The average return for U.S. stocks has trailed government bonds by about 8.6 percentage points annually since 1999, after outperforming by 8.2 points last century, based on data compiled by the London Business School and Zurich-based Credit Suisse Group AG.
Equities appreciated an average 12.91 percent a year from 1900 to 1999, while bonds returned 4.69 percent annually, according to the data from the London Business School and Credit Suisse. Since the start of the new century, bonds gained 6.36 percent, compared with a loss of 2.27 percent for shares.
The article says that pension funds are increasing their exposure to commodities and derivatives as well (in addition to bonds) but I suspect that is temporary. I'm bearish on commodities and think they are going to get burnt. As for derivatives, it's a zero sum game and I'm not sure if the pension funds can outsmart the hedge funds, investment banks, and others, who probably take the opposite end.
This is just a guess on my part but the biggest losers out of all this will be alternative assets, such as hedge funds, private equity, commodities, real estate, and so forth. These are the areas that the pension funds (and others) ramped up in the last decade or two. The stock market will also be a loser but the impact will be smaller.
(note: I'm only talking about developed countries here. Hedge funds/private equity/real estate/etc are under-represented (in fact, almost non-existent) in develping and undeveloped countries. If anything, I suspect institutional funds are overloaded on bonds in developing countries. Developing countries are probably in the state that USA was in the 30's or 40' (or earlier) when bonds were the "prudent" investment and stocks were "speculative". Of course, as Jim Grant would say, almost anything is speculative at a high price.)
Tags: institutional investing