Funds Europe talks to Pioneer Investments’ Hugh Prendergast about new thinking on asset allocation and risk management and embracing new sources of returns.
Fundamental changes are taking place in the investment management market, leading investors to look beyond their traditional asset allocations and strategies, says Hugh Prendergast, Head of Strategic Product & Marketing, Western Europe and International at Pioneer Investments. Modest expected returns across a variety of asset classes, sub-par growth and a compressed outlook environment have left investors a challenge of how to maintain income when so many traditional sources are drying up.
Such a scenario has in the past led investors to run more risk and while there has been a big increase in bond issuance, especially in high yield, the increase in regulation has made it harder for long-term investors to make riskier choices. Instead, says Prendergast, investors are looking for more flexibility, more sophistication and more active management.
For example, there has been a big increase in the amount of flow into multi-asset strategies and liquid alternatives as investors look for alternative sources of income. “The advantage of liquid alternatives is that they aim to offer a low probability of absolute loss and a low market correlation, in contrast to the benchmark-hugging strategies of beta managers. While multi-asset investments provide different potential sources of return and a more diverse means of allocating risk than through a simple global macro strategy.”
Investors are also looking at more outcome-oriented investing and directing their allocations around specific objectives. “Simply moving the needle from low-risk assets to high-risk assets does not work anymore. Instead they are thinking more about the risk they are willing to run and are increasingly willing to sacrifice some upside in return for better downside protection.”
It is a new way to think about the investment universe, says Prendergast. “Previously, investors’ asset allocations were based around their time horizon and their sensitivity to risk. Now they are thinking more about the function of their portfolio and what they want it to do. They are considering the fluctuations of returns versus the reliability of income and making a reasonable and considered trade-off between these two principles.”
To achieve this aim, investors need more flexible products – for example, fixed income vehicles that offer more than just durations and spread, or turning the volatility of assets to an advantage by using things like option overlay strategies that are intended deliver stable, reliable sources of income. In this new environment, Prendergast believes that active management will become increasingly popular.
However, it will not simply be a case of granting managers more discretion to be actively managing. A new understanding of risk that is less reliant on single measures like tracking error or Value at Risk is also crucial, says Prendergast.
“We believe that risk needs to be managed in different ways using several judgements and scenario analysis. Most importantly, you have to have a view on capital impairment and relate that to your windows of tolerance. If you can free up some of your assets to work harder for you, if you can accurately measure your risk tolerance and if you have trust in your asset manager to be more active in your investments, then it is our opinion that you really can generate greater returns in this environment.”
Disclaimer: Unless otherwise stated all information and views expressed are those of Pioneer Investments as at 26 March 2015. These views are subject to change at any time based on market and other conditions and there can be no assurances that countries, markets or sectors will perform as expected. Pioneer Investments is a trading name of the Pioneer Global Asset Management S.p.A. group of companies.
©2015 funds europe