Interesting mixed signals from the latest research by Greenwich Associates, which has produced two new reports, one subtly entitled: “Crisis in Credit: Financial Market Turmoil Edges Toward the Global Economy”.
The report finds that 70 per cent of the large institutional investors surveyed by Greenwich think turmoil in international credit markets will push the US into recession in 2008, while and almost 60 per cent think the still-unfolding crisis will result in a global economic downturn.
The other report, issued at the same time, is happily entitled “Retooled Portfolios Have US Institutional Funds Bullish on the Future” and finds that major US pension plan sponsors are confident they will weather the current volatility in global markets.
On one side of what is looking increasingly like a great – and growing – divide between players in credit markets and institutions focused on equities markets, Greenwich in February polled 234 institutional fixed-income and equity investors in Asia, Europe and North America for its “Crisis in Credit” survey. The questions focused on the impact of the liquidity crisis that began in August with the collapse of the US sub-prime mortgage sector. Looking ahead to the remainder of this year, these investors see a new cause for pessimism, notes Greenwich:
As banks pull back on lending in the wake of massive write-downs and losses, more than 70 per cent of the investors believe that companies throughout the world will find their ability to borrow constrained this year. And if companies begin to have trouble obtaining credit, a crisis that until now has been mainly a concern of financial institutions will begin to have a real and dramatic effect on the global economy, notes Greenwich Associates consultant Tim Sangston.
Among other key findings of the report:
- Throughout the world, about one-third of participating institutions say they suffered losses due to direct exposure to mortgage-backed securities. Losses on MBS have been most common in Continental Europe, where 40 per cent of investors reported losses on these products, and the US (38 per cent).
- Globally, nearly 30 per cent of investors report taking direct losses on investments in CDOs or other structured credit products. CDO losses have been most common in the US (31 per cent), and least common in Canada, where only 18 per cent of investors said they have lost money on CDO investments.
- 35 per cent of the institutional investors polled say their assets under management have declined as a direct result of the global liquidity crisis. Investors appear to have been hardest hit in Europe, where more than 40 per cent of the institutions say they lost assets.
And now for some happy news, in Greenwich’s other report, “Retooled Portfolios”, which finds that many US pension plan sponsors are confident they will weather the current volatility in global markets thanks largely to a new model of portfolio management designed to generate the investment returns needed to fund future pension liabilities while minimizing risk levels within their portfolios. The report, based on Greenwich’s 2008 US Investment Management Research Study, reveal that a growing number of corporate and pension plan sponsors are adopting this new portfolio management model in whole or in part.
The new model has two main elements, according to Greenwich: broader portfolio diversification, and asset-liability matching, which encompasses a series of approaches and products designed to more closely align assets to future pension liabilities. More funds are “beginning to implement more sophisticated strategies of asset-liability matching, liability-driven investing and portfolio immunisation,” notes the report.
But wait – could there be an element of “irrational exuberance” in institutions’ outlook?, asks Greenwich.
Public pension funds say they expect their investment portfolios to outperform the market by 125bps on an annual basis over the next five years. While corporate funds are more restrained — they project 103bps of alpha on average — a quarter do say they expect their portfolios to outperform the market by at least 141 bps.
“Historically, very few individual managers could document 100bps in annual alpha over a five-year period, so it is hardly realistic to expect that most or even many funds will be able to generate 120bps or more in alpha on a consistent basis,” said Greenwich consultant Andrew Klebanow, noting that while it’s “reassuring” to see that US institutions have confidence in their portfolio strategies, these expectations are not exactly “in line with historic results”.