Achieving better outcomes from your investments
04 Dec 2017 - Estimated reading time: 5 minutes
I very much enjoyed chairing our investment conference last week which was all about how trustees can achieve better outcomes from their investments. It was an enjoyable and informative afternoon with a bit of fun at the end when we were joined by some guest asset managers to pitch some ideas in a Dragon's Den scenario.
For a number of years we have been frustrated by the industry’s focus on “growth” and “matching” when looking at assets. We have been driving the industry to adapt this 2 dimensional view of the world to include “income” as part of a 3 dimensional view which looks at Growth, Income and Protection – we call this getting a GrIP on your investments. The first session, led by David Walker and Elaine Torry, focussed on this issue and why it is so important for schemes now and in future.
Many schemes still have deficits to fill, they are cashflow negative and have ongoing (and rising) income requirements, and also need to protect against markets blowing them off course. Our approach is all about maximising the chances of achieving all these objectives. So getting the right mix of growth assets to fill the funding gap, ensuring that we have sufficient cash being generated to allow us to meet all benefit payments (and other outflows) at all times – and crucially without being a forced seller of assets. We know the assets need to be sold in due course, but when they have done their job and at a time of our choosing which makes sense. And we want to make sure we do not allow markets to have their evil way with us – we have seen a bull run in asset prices for many years and must protect against any downsides that may arise in future.
Andy Green and Andrew Johnston then put some meat on the bones of what we mean by income and protection assets in particular. We like contractual cashflow assets, like loans and private debt, that throw off cash through regular income or interest payments, plus redemption payments. These assets are ideal tools to meet cashflow requirements, with default the main risk to be managed. In addition, returns from some of these assets have stood up well by comparison with others where spreads are tight and value is questionable. We also like longer term assets with predictable returns, like infrastructure and long-lease property, provided we access parts of the market where valuations have not become stretched.
We also see a great opportunity to protect against any setback in equity markets by using derivatives to protect the downside in exchange for giving up some of the upside. The very low levels of volatility make such strategies relatively cheap at present, and can help us run our equity positions for longer and avoid switching into other assets that have become very expensive.
Dave Morton and Becci Craddock-Taylor then talked about how we can maximise capital efficiency within portfolios, allowing us more scope to achieve all of the strategies discussed above. Using leverage techniques to free up capital can allow us to reduce risk, maintain returns and create a pool of cash to meet short term cashflow requirements, while we wait for the distributions to come from our less liquid holdings. Most schemes use leveraged LDI strategies in some form, the aim being to achieve as much protection as possible without tying up capital any more than necessary. We are advocates of the same approach to capture market returns in equities and investment grade corporate bonds.
The final session asked the audience to decide if they would include any or all of timberland, distressed debt and lifetime mortgages in their portfolios. The clear winner was timberland which gained a lot of support, with a pretty balanced view of distressed debt and some scepticism about lifetime mortgages. Clearly timberland got the nod as a “growth” asset and one that our audience were prepared to “branch out” into! Groan!
All in all an excellent day which showcased what we stand for as a practice and how we think about risk and return. Our consultants would be delighted to share more detail with you and discuss what we can do to work with you to achieve better outcomes from their investments, please don't hesitate to get in touch.