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European pension funds move away from equities as Euro-zone crisis deepens

31 May 2012

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Pension fund allocations to equities are increasingly replaced with alternatives as European investors seek to cover themselves from the increasing volatility created by the Euro-zone crisis, Mercer's annual European Asset Allocation Survey says.

With the recent warning from the European Commission that financial disintegration was imminent, the detected trend now seems to have started even quicker and fiercer than was predicted in the study.

The survey, which looked at 1,200 European pension funds with assets of over €650bn, found that a wide set of alternative asset classes are being considered by pension funds, with 50% of schemes now holding an allocation to alternatives. This marks an increase of 40% compared to last year.

Mercer's study reveals that pension schemes in what could be called 'traditionally equity-heavy markets', such as the UK and Ireland, still have the largest equity weightings, although they have also seen the largest falls in equity allocations. This is mainly due to the desire to drive away from domestic equities.

In the UK, average allocations to domestic and non-domestic equities fell by 4% (from 47% to 43%) during the past 12 months.

Mercer's European director of consulting, Nick Sykes, said: "As the Euro-zone crisis continues, pension funds are faced with the dual challenge of managing portfolio risk brought on by market volatility, while at the same time identifying opportunities that will generate returns to support future liabilities. In their quest to control volatility without sacrificing long-term returns investors have turned their attention to alternative asset classes.

"In addition to their relative attractiveness compared to low-yielding bonds, alternative asset classes also offer appealing diversification characteristics," Sykes says. "Schemes are looking to asset classes that are less exposed to the sovereign debt crisis, with a particular focus on emerging markets, both for equities and bonds. Investors are also looking globally for yield in bond markets, since the crisis has pushed core yields in Europe to very low levels." The study says pension schemes also favour liquid asset classes which offer easy access to their assets these turbulent times.

Current trends

In the alternatives category, hedge funds, emerging markets debt and high yield bonds were the most popular categories across Europe (excluding the UK), with almost 20% of schemes having an allocation to one or more of these areas, Mercer says.

In the UK, the most popular alternative asset classes were diversified growth funds (23.2%), macro hedge funds, also known as GTAA strategies (13.6%), and funds of hedge funds (10%).

The size of allocations to alternative asset classes is also on the increase but remains relatively small compared to traditional asset classes. Allocations of around 3-5% to individual alternative asset classes are currently fairly common, the study shows. However, Mercer predicts that as investors diversify and increase the number of alternative asset classes held, this will continue to move higher. This year the total allocation to alternative asset classes reached an average of 8.5% for all surveyed schemes.

Trends for the future

The survey predicts that over the next 12 months, the trend to move away from equities looks set to continue, mostly through reductions in domestic equity allocations. For example, in the UK, 38.8% of schemes are planning to reduce their exposure to UK equities, with only 1.4% expecting to move in the opposite direction. Nearly 24% of UK schemes intend to reduce their overseas equity allocation; a similar pattern can be seen across Europe, with around 20% of schemes planning to reduce their domestic or overseas equity allocation.

The real estate forecast is quite bleak across continental Europe, Mercer finds. Just over 13% of the questioned schemes are planning to reduce their allocations and only 1.6% is expecting an increase. In the UK the sentiment appears to be a mixture of positive thoughts and negative outlooks, with 5.3% of schemes planning a reduction in the size of their allocation and 6.6% planning an increase.


First published 30.05.12