Sovereign wealth funds stay confident as returns slide

Added 13th June 2016

Despite the volatility of global financial markets this year and a steady decline in investment returns, confidence among the world’s sovereign wealth funds remains high, a survey by Invesco has found.

Sovereign wealth funds stay confident as returns slide

New investment is also holding up, according to Invesco’s fourth annual study into global sovereign asset management which covers funds with over $8trn of assets (£5.6trn, €7.1trn).

The survey found that for the sovereign investors interviewed by Invesco, the average actual 2015 annual portfolio returns fell to 4.1% from an average of 6.6% over the past five years.

The 4.1% return was 1.8 percentage points below the average sovereign investor target of 5.9%. 

“They missed their target returns for the year, but that is more a reflection of the low return world,” said Alex Millar, head of EMEA sovereigns, Middle East and Africa, institutional sales at Invesco told International Adviser.

The sovereign wealth funds also expect to miss their target returns again next year.

Alternatives favoured

Millar said the latest study picked up further evidence of a general shift towards alternative investments by the big sovereign investors with real estate assets emerging as the primary asset class of choice

“The alternatives allocation continues to grow, and when you dig down into it you see that real estate is growing faster than private equity and infrastructure. The reason for that is around execution,” he said.

Investors also cited a greater number of credible global asset managers, and a long list of developers and operators to partner with in real estate investments.

Real estate leads 

Allocations to real estate by sovereign wealth funds rose to 6.5% in the latest study from 3.0% in 2012, representing a 29% compound annual growth rate over a three-year period, growing faster than private equity and infrastructure allocations combined.

Sovereign investors also said they expected to increase global and local allocations into real estate more than any other asset class in order to meet diversification and absolute return objectives.

As a result, more than 62% of sovereign investors are underweight infrastructure and 52% underweight private equity, relative to their target allocations, according to Invesco's study.

Net inflows rise

Invesco fourth annual Global Sovereign Asset Management study conducted face-to-face interviews with 77 sovereign investors and reserve managers across the globe, representing 66% of sovereign assets and 25% of foreign reserves representing $8.96trn of assets under management as at the end of 2015.

The study found that net inflows prevailed over the past year. On average new funding accounted for 7% of assets, while the average sovereign investor withdrew or cancelled only 3% of assets, as the sovereign wealth funds coped with funding challenges.

Time horizons for investing are also lengthening, rising from 6.4 to 7.6 years over the past four years amid continued interest in the diversification benefits and illiquidity premiums offered via alternatives.

US favoured

The study also found that capital is flowing into US and frontier markets and away from the BRIC nations of Brazil, Russia and China. 

Millar said the latest study showed the US had taken over from the UK as the most attractive market in 2016.

“Sovereign investors expressed the view that the US appears increasingly open to their investments following positive perceptions of sovereign investments into the US financial sector during the global financial crisis."

New allocations to frontier markets are also on the rise, with allocations to emerging Asia increasing from 1.6% in 2014 to 2.3% in 2015, and in Africa from 0.6% to 0.9%.

BRIC rebalance

Conversely, while Brazil, Russia and China have all lost their attractiveness to sovereign investors amid weaker performance, the fourth BRIC nation India had become increasingly attractive.

Millar said that in comparison to the last few years, sovereign investors are now less willing to overlook political and regulatory concerns in these regions in order to hit target allocations.

“Despite being long-term strategic investors, sovereign investors are quick to adjust to perceptions of market attractiveness, responding to latest market data or regulatory change,” he said.

Sovereign investors also noted a struggle with commodity prices and falling stock markets for large export markets like Brazil and Russia, while the shrinking labour force in China is driving up manufacturing costs and squeezing private sector margins. 

“Market performance and public policy also factor into their longer term strategic asset allocation choices - especially geographically. The ability for governments to attract sovereign investment via policy decisions is a key finding and presents an opportunity for governments globally to attract significant long term capital to support economic growth,” Millar said.

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