Sofia Harrschar, head of alternative investments & structuring at Universal Investment, delves into the shift towards alternative investments among institutional investors.
There is a growing appetite for private equity, private debt and other unlisted investments among institutional players such as pension funds, insurance companies or foundations. The search for diversification and risk control is a vital element of their strategic asset allocation. Alongside the traditional investments in bonds and equities, alternative investments have become a consistent part of their institutional portfolios.
This trend is being reflected in one of Europe’s largest fund services platforms: Super ManCo Universal Investment, with its roughly 985 billion euro in assets under administration at the end of 2023, has been analysing its clients’ investment behaviour for more than 12 years.
The hike in interest rates has seen more managers turn to direct investments instead of funds, but this shift is likely to have come to an end as the markets are already anticipating interest rate cuts.
Weightings of traditional asset classes remain stable
Stock markets rallied in late 2023, based on the seemingly unanimous positive interpretation of central banks’ statements by market participants. The decline of overall inflation raised hopes that inflation might disappear without a recession, with expectations building that the first interest rate cuts could take place early in 2024. Such a scenario would lead to a rapid recovery in economic growth, with positive effects on all asset classes. This positive outlook is shared by many economists and analysts. The optimistic market sentiment is to be seen in the development of the volumes of the two traditional asset classes on the Universal Investment platform. They both have increased significantly with equity volumes up 6 per cent and bond volumes up 4.6 per cent as at 31 December.
Some of the inflows into liquid assets are likely to come from redemptions in alternative investment solutions. The strong performance, particularly of investments in private equity, may have led to some funds being over-allocated in this asset class. As institutional investors are now able to achieve their target returns by investing in traditional asset classes, rebalancing was an attractive option for fund managers.
Core element in the institutional mix
Despite rising interest rates, the trend towards non-stock market investments continues: At the end of the third quarter 2023 (the latest alternative investment figures available) Universal Investment managed a volume of around 98 billion euro in alternative investments. This is a long way from those five billion euro in 2011, when the Universal Investment started analysing its clients’ asset allocations.
Institutional investors are active in all areas of the private markets. In recent months, they have benefited above all from the strong and sustained growth in equity structures (ratio 64.9 per cent), particularly in private equity. However, investments in securitisations (8.9 per cent) and debt structures (13.8 per cent) remain of interest, the latter especially because of the recurring returns over the entire investment term.
Currently investment strategies are being scrutinised more intensely than in the past. Fund managers tend to look for projects in well-known areas rather than in regions considered exotic. Taking advantage of upcoming economic opportunities increasingly takes the form of private investments.
Infrastructure needs
This includes the increasing need for financing in areas such as infrastructure, particularly electricity grids. The communications sector is also promising, driven by the digital revolution and advances in data technology. In addition, innovative technologies such as artificial intelligence, renewable energies and biotechnology offer trend-setting investment opportunities.
Over the course of 2023, alternative investments once again proved to be a main driver of the performance of institutional portfolios. Year on year, hedge funds in particular boosted returns alongside the booming equity markets. Over three, five and ten years, investments in private equity consistently delivered double-digit growth.
Dr Sofia Harrschar is head of alternative investments & structuring at Universal Investment, a Knowledge Partner of Investment Officer Luxembourg. The firm shares its insights once a month.