“It is an oversimplification to say that all schemes should hold 20% in illiquid assets because the decision needs to be scheme specific,” he adds. “This means looking at the cashflows, the need for collateral as part of an LDI strategy with leverage and the flexibility for re-balancing. “However, many investors can tolerate a higher allocation than they currently have and 20% to 30% is not an uncommon end point.”
LGIM’s Walsh agrees, adding several considerations should be factored into the decision-making process. This ranges from the other types of assets in the portfolio and how they react with their illiquidity counterparts as well as the maturity of the scheme and whether it is heading for a buyout. “If so, you want to have more insurance friendly assets and less illiquidity and certainly less sub-investment grade assets due to their treatment under Solvency II,” he says.
A CONVERGENCE IN INVESTMENT STYLE
JP Morgan Asset Management EMEA head of pensions solutions and advisory, Sorca Kelly-Scholte, also believes that pension funds will move towards an annuity-type of model which focuses on income-generating assets such as credit, real estate and infrastructure that are aligned to underlying cashflows.
“If we were to contrast the pensions investment mix today with annuity books of insurers, they are invested quite differently, but ultimately pension schemes are in the process of turning themselves into annuity books as they become more mature and fully funded,” she says. “You would expect therefore to see some convergence in the investment styles.
“That has not yet taken hold as pensions are still largely anchored on a gilts-plus approach and LDI, where the implicit target is virtually 100% gilts. We would challenge whether that is really the answer, given it is arguably the single most costly form of securing liabilities.”
