Asset Management

Sovereign Investors Put "Strong" Flows To Emerging Markets, Want To Raise Alternatives

Tom Burroughes Group Editor London 24 June 2014

Sovereign Investors Put

A survey by Invesco of “sovereign investors” – such as the huge funds that governments have created from energy revenues – shows strong inflow to emerging markets and a desire to hold more "alternative" areas such as infrastructure.

A survey by Invesco of “sovereign investors” – such as the huge funds that governments have created from energy revenues – shows strong inflows into emerging markets despite a marked preference in general for developed economies. They also show a long-term desire to push up allocation to alternative areas such as hedge funds and infrastructure.

The poll, conducted among over 50 individual sovereign investors collectively holding financial firepower of $5.7 trillion, showed that areas such as China, Latin America and Africa are “winners of new global sovereign flow”.

While they are collective, government-run entities (and often opaque in terms of their accounts), sovereign investment entities can be similar to very large family offices and other institutions run for wealthy individuals, in that they can get access to otherwise hard-to-enter asset classes, and tolerate illiquidity if it means the chance of associated returns. Therefore, studies of what such sovereign investors do and think can find echoes in the private wealth management space.

Almost half (46 per cent) of sovereign investors expect to see an increase in new funding in 2014 beyond the levels seen in 2013, with clear implications on global capital flow.

Alternative positions

On a net respondent view basis, slightly more than half (51 per cent) of investors increased new exposure to real estate in 2013 and 29 per cent did so to private equity, relative to the total portfolio. Investors expect to increase new allocations across all major alternative asset classes in 2014 based on net responses – real estate, private equity, infrastructure, hedge funds and commodities - relative to their 2013 asset placements.

Even so, many sovereign investors remain underweight in alternatives relative to their strategic asset allocation targets, Invesco said. They have increased their target allocations for alternatives in the past five years and had yet to reach these targets. Secondly, many sovereign investors (46 per cent) expect funding levels to increase in 2014 relative to 2013. A large increase in assets encourages more strategic allocation placements since allocating significant assets tactically could lead to breaching internal guidelines.

Rising hunger for holding property, hedge funds and private equity among other alternatives is part of a strategic, not tactical, shift in how to slice and dice assets, the report said. In recent years, alternative assets have in some ways underperformed, with sovereign investors reporting average returns of 7 per cent for these areas in 2013, versus a target of 8 per cent. This suggests a rise in exposure is part of a strategic longer-term approach.

“However, the main reason is that many sovereign investors, especially those with assets in excess of $50 billion, are seeing it take time to deploy assets in alternatives and emerging markets and are yet to reach the asset allocation targets set five years ago,” Nick Tolchard, co-chair of Invesco’s Global Sovereign Group and head of Invesco in the Middle East, said.

Within alternatives, global infrastructure was particularly popular, with 47 per cent of respondents logging an increase in exposure to new global infrastructure in 2013 relative to their portfolio on a net respondent view basis, compared to 22 per cent in 2012.

Emerging

The report said respondents to the survey are underweight in emerging markets relative to their strategic asset allocation targets, giving them more room to increase new exposure to the regions. This long term structural trend to emerging markets does not appear to have been influenced by the fact that emerging market equities underperformed developed market equities during 2013.

“There are some exceptions where tactical asset allocation strategies are at play, such as Central Eastern Europe and Russia. These are the only emerging markets to which weightings declined on a net respondent view basis in 2013 and to which respondents expect exposure to remain flat going forward into 2014, primarily due to political instability,” the report said.

Invesco sets out average sovereign investor ratings for economic performance, private sector attractiveness and attractiveness for the top-10 economies based on size. In terms of attractiveness to sovereign investors, the perceived average economic performance rating for developed and emerging markets are comparable, however there is significant variation in the overall attractiveness of the economies for sovereign investors, ranging from 4.9 (India), to 7.2 (Germany) and 7.4 (UK).

A sign of greater risk appetite, as measured by willingness to invest outside the sovereign investor’s home nation, is also seen in the survey.

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