Are Pensions Ignoring The Economic Rebound?
Stocks tumbled on Monday and lots of people are worried that they will retest their March lows. Stop worrying so much! Let me quote the bonddad blog today: "While I am sure there are people in a panic about this, I'm not. The market needs a sell-off right now; we've come a long way and it's time to drive out some weak positions."
I agree, let the weak hands sell. This market is heading higher. Uri Landesman, who oversees about $2.5 billion as head of global growth for ING Investment Management Americas shared his thoughts on Tech Ticker today:
Landesman now faces a "quandary" of expecting a significant near-term correction but believing major averages will end the year "substantially higher" than where they are currently. His optimism is based on a belief the massive global government stimulus will boost economic growth in the second half and into 2010, and that major averages haven't fully priced in that rebound.
Landesman believes underinvested or just generally bullish fund managers will become aggressive buyers if and as the S&P 500 falls into the 950-975 area.
Don't underestimate the psychological effects of performance anxiety. A lot of portfolio managers are underperforming their indexes and they are looking for any dip to pull the trigger and buy stocks.
Interestingly, Bloomberg carried a story today stating that pension funds pare stocks, ignoring economic rebound:
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.
“Given the storm in financial markets that we have seen, the name of the game is risk management,” said Dirk Popielas, head of the Pension Advisory Group at JPMorgan Chase & Co. in Frankfurt. “The majority of pension funds have not finished taking risk off their portfolios. Some have not even started.”
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.
Stock indexes retreated from Shanghai to London and New York today as foreign direct investment in China fell and Japan’s economy grew less than economists estimated. The MSCI World slid 2.5 percent at 9:35 a.m. in New York, while the Standard & Poor’s 500 Index sank 2.1 percent.
The MSCI World’s 42 percent slump last year decimated equity allocations at pensions. The largest funds oversee a total of about $3 trillion, according to data compiled by Bloomberg, magnifying the impact of their decisions on the performance of stocks worldwide.
Decade of Stagflation
Equity assets in the U.K. fell to 41 percent of holdings at the end of 2008, according to data compiled by New York-based Citigroup. The last time British pension funds held so little in equities was in 1974, after the Middle East oil embargo ushered in a decade of stagnant growth and price increases known as stagflation.
Funds aren’t returning to their previous levels, according to Andy Maguire, a senior partner at Boston-based Boston Consulting Group. The proportion of equities in U.K. pensions exceeded bonds by 1.6 percentage points in the first quarter, the smallest gap since 1962, annual data compiled by Citigroup show.
Equity losses have hit the pension industry just as liabilities increase. The number of people worldwide 65 and older may jump to 1.3 billion by 2040 from 506 million last year. Their proportion of the total population will double to 14 percent in the same period, according to a June report from the U.S. Census Bureau.
“The real issue is they don’t want the volatility they had,” said Louise Kay, head of U.K. institutional business development at Standard Life Investments Ltd. in Edinburgh, which oversaw the equivalent of $34 billion for U.K. pension firms as of December. “Funds normally have to look whether they rebalance or not after one asset class loses value, and this time they are wondering whether this is the right thing to do.”
The FTSE 100 Index of U.K. stocks advanced 6.3 percent this year through last week, the smallest gain among the world’s 20 biggest equity markets, according to data compiled by Bloomberg.
Four of the world’s seven largest pension funds -- Sacramento, California-based California State Teachers’ Retirement System and California Public Employees’ Retirement System; Heerlen, Netherlands-based Stichting Pensioenfonds ABP; and South Korea’s National Pension Service -- have cut their equity target allocations, data compiled by Bloomberg show.
The $119 billion California State Teachers’ Retirement System, which oversees the pensions of 833,000 members, said on July 21 that it had temporarily shifted 5 percent from equities to fixed income, real estate and private equity, and permanently moved 5 percent from stocks to “absolute return” products that target gains even as markets fall.
“The shift out of equities is still in progress,” Calstrs’ spokesman, Ricardo Duran, said in an e-mail on Aug. 12. The value of the fund’s investments slid 25 percent in the fiscal year ended in June.
The $181 billion California Public Employees’ Retirement System, which managed retirement benefits for 1.6 million current and retired public workers as of June 30, lowered its equities target to 49 percent from 56 percent on June 15. Calpers lost 23.4 percent in the fiscal year ended June 30, erasing six years of earnings.
ABP, which oversees the equivalent of $256 billion for more than 2.7 million Dutch government workers and teachers, reduced stock holdings to 29 percent from 32 percent in the first months of this year to reduce risks, according to spokesman Thijs Steger. ABP, the euro region’s biggest pension fund, said the value of investments increased 4.5 percent in the first half.
Rodgers and Hammerstein
The Dutch pension fund is turning to so-called alternative investments to boost returns. It outbid music publishers in April for the works of Richard Rodgers and Oscar Hammerstein II, including “The Sound of Music” and “Oklahoma!” The songs are managed by ABP’s Imagem Music Group, which has rights to more than 200,000 compositions, including Michael Jackson’s “You Are Not Alone.”
South Korea’s National Pension Service cut its 2009 domestic stocks allocation in June for the second time in a year as it predicted a “slow” economic rebound.
The fund posted a 0.2 percent loss on assets in 2008, according to South Korea’s Ministry for Health, Welfare and Family Affairs, even as the country’s benchmark Kospi Index of stocks slid 41 percent. The hedge-fund industry had its worst year on record in 2008, losing 18.3 percent, according to data compiled by Chicago-based Hedge Fund Research Inc.
South Korea’s National Pension, which was set up in 1988 to cover private-sector workers and people who are self-employed, posted returns of more than 5 percent a year between 2003 and 2007.
Norway Oil Fund
Norway’s sovereign wealth fund, which invests the country’s oil money abroad to avoid stoking domestic inflation, has been a buyer of stocks this year even as its target allocation held steady. The fund, which raised its equity weighting to 60 percent in 2007 from 40 percent, said in a presentation on Aug. 14 that its stock holdings stood at 60.3 percent of assets.
The sovereign fund, Europe’s biggest stock owner, said last week the value of its investments rose a record 12.7 percent in the second quarter as the MSCI World posted its biggest gain since 1998, climbing 20 percent in the April-to-June period.
Signs the global economy is rebounding from its first recession since World War II sent the MSCI World up another 10 percent this quarter through last week, while the S&P 500 of U.S. stocks extended its five-month rally to 48 percent.
The U.S. unemployment rate dropped in July for the first time since April 2008, data from the Labor Department showed this month, while the German and French economies unexpectedly grew last quarter, government figures indicated last week.
Valuations, Oxbridge Dons
European pensions reduced their weightings even after the MSCI World fell to 9.4 times the average per-share earnings of its companies in November, the cheapest valuation since at least 1995, according to weekly data compiled by Bloomberg.
“Human emotion comes into the investment-making decision process, and managers are just as prone to it as individuals,” said Neil Hennessy, who oversees $850 million as president of Hennessy Advisors Inc. in Novato, California. His Focus 30 Fund beat 99 percent of rivals in the past five years. “These managers are good, but you can see how they got whipsawed.”
Universities Superannuation Scheme Ltd., which oversees the pensions of employees at more than 400 universities and higher education institutions including Oxford and Cambridge, is shunning stocks, said Elizabeth Fernando, an adviser to the fund’s investment committee.
The U.K.’s second-largest pension fund, which managed 23.1 billion pounds ($38.1 billion) in Liverpool at the end of 2008, is diversifying investments after trustee boards got “scared enormously” during the bear market, Fernando said. The fund is boosting its allocation to alternatives that deliver “equity- type returns” but are uncorrelated with stocks, she said in an interview Aug. 4. She declined to give more details.
A third of U.K. pension funds in an April survey by Mercer Investment Consulting said they plan to cut domestic equities. Only 2 percent planned an increase, according to Mercer, a unit of New York-based Marsh & McLennan Cos. There has been no update of the survey since then.
“The fact is there has been an awakening towards the risk of equities and the part that equities should play in the overall pension-fund strategy,” Tom Geraghty, the Dublin-based head of Mercer’s European investment consulting business, said in an interview. “Not to say that equities should not be part of a pension’s asset-allocation arrangement, but that they will have a less influential part to play.”
An awakening towards the risk of equities?!? Hello! That's why they call it dumb money! One of the portfolio managers I used to work with told me to "always short pension funds," adding that "they are always the last ones in and the last ones out. Even retail investors are smarter than most pension funds."
The fact remains that there is a time to cut risk and there is a time to crank it up but most of these large pension funds cut their equity allocations at the bottom of the market and now they are stuck chasing stocks higher. And trust me, they will chase the indexes much higher or risk losing their jobs after severely underperforming their policy portfolio.
Unfortunately, this is how absurd markets have become. On one side, you have large, lethargic pension funds that have to pass investment decisions through committees and their board of directors and on the other you got large, aggressive and nimble hedge funds that are looking to capitalize on market opportunities knowing that dumb money (and I include mutual funds in this category) will follow their lead.
Bloomberg reported today that Ken Griffin’s $12 billion Citadel Investment Group LLC is trying to set up a leveraged-loan trading unit as the market for the debt has returned 42 percent from a December low:
Now if you ask me, Ken Griffin doesn't want to expand into leveraged loan trading because he is cutting risk and worried about the future. He sees an opportunity and wants to capitalize on it. True, Citadel will act as market-maker and make some nice juicy spreads in the process, but they obviously believe the leveraged loan market will expand in the coming years.
The hedge fund sought unsuccessfully to hire four members of Barclays Capital’s loan sales and trading team for its effort, said another person, who declined to be identified because the discussions are private. It’s unclear how many people Chicago-based Citadel seeks to hire or when the group may start trading.
Citadel would join firms such as Macquarie Group Ltd. and Jefferies Group Inc. establishing operations for trading leveraged loans, often used to fund corporate buyouts. More than $57.1 billion of the debt has been underwritten this year, down from $229.7 billion in the same period of 2008, according to data compiled by Bloomberg. Some firms expanding into loan trading hired from investment banks that laid off employees when the market deteriorated, reaching an all-time low in December.
And if I were a betting man, I'd bet with Ken Griffin who has a proven track record and skin in the game and against the large pension funds who have for the most part made one huge investment blunder after another.
Then again, why should pension parrots care? It's not their money they are betting with.