- Emerging markets remain winners of new global sovereign assets – despite overall underlying preferences, at a total portfolio level, for developed markets
- Allocations to alternative investments increasing on a net respondent view basis - including real estate and private equity
- Increase in new funding encourages global sovereigns to allocate assets strategically rather than tactically
- UK: the most attractive international market to sovereign investors
Invesco has released its second annual Invesco Global Sovereign Asset Management Study, an in-depth report which offers insight into the complex investment behaviour of sovereign investors across the globe, and provides a framework to help understand the investment preferences of these funds.
Conducted amongst more than 50 individual sovereign investors across the globe, representing $5.7 trillion of assets, this year's study reveals emerging markets - including Latin America, Africa and China – continue to be the winners of new global sovereign flow, despite a fundamental preference, relative to the total portfolio, for developed markets. Furthermore, sovereign investors continue to favour alternative investments with allocations increasing across all major alterative asset classes, including real estate and private equity, on a net respondent view basis.
Analysis of data within the study highlights that these geographical and asset class shifts can be attributed to the influence of strategic asset allocation over tactical asset allocation in influencing investment strategy and driving investment decisions of global sovereign investors. One influencing factor for this is the expectation of new funding. Almost half (46%) of sovereign investors expect to see an increase in new funding in 2014 beyond the levels seen in 2013, with clear implications on global capital flow.
Increasing new allocations to alternative investments
Alternative investments remain the clear asset class winners in terms of new asset allocation within sovereign investor portfolios, mirroring the trend reported in the 2013 study. On a net respondent view basis, 51% of sovereign investors increased new exposure to real estate in 2013 and 29% to private equity, relative to the total portfolio. In fact, sovereign investors expect to increase new allocations across all major alternative asset classes in 2014 based on net responses – real estate, private equity, infrastructure, hedge funds and commodities - relative to their 2013 asset placements.
Analysis of the findings suggests this continued appetite for alternatives is a structural trend driven by the influence of allocating assets strategically, rather than a short term shift due to tactical allocations to boost short term returns.
Firstly, many sovereign investors remain underweight in alternatives relative to their strategic asset allocation targets. These sovereign investors had increased their target allocations for alternatives in the last five years and had yet to reach these targets. Secondly, many sovereign investors (46%) expect funding levels to increase in 2014 relative to 2013. A large increase in assets encourages more strategic allocation placements since allocating significant assets tactically could lead to breaching internal guidelines. The third reason that increasing appetite for alternatives should be attributed to strategic rather than tactical asset allocation is the fact that alternatives underperformed during this period, with sovereign investors typically citing an average return of 7% for alternatives in 2013, compared to a target of 8% - which indicates that increasing their overweight in these asset classes is a long-term, strategic decision, rather than a tactical move.
Growth in new capital flow to emerging markets – but fundamental preference for developed markets remains
As observed in the 2013 study, the flow of new global sovereign assets continues to reach emerging markets with new allocations to Latin America, Africa, China, India and Emerging Asia all increasing in 2013 based on the net respondent view and relative to the portfolio, and are expected to increase again in 2014 relative to 2013.
However, while the major trend in geographic allocation is a strategic shift to emerging markets, with allocations set to increase from current levels, this takes place within the context of a strong historical preference for developed markets, relative to the total portfolio. Many sovereign investors expect to remain underweight in emerging markets on a GDP weighted basis. Even after excluding home-market allocations from sovereigns based in developed markets, 56% of the average sovereign investor portfolio is in developed markets.
nterestingly, sovereign investor attractiveness scores are lower relative to private sector opportunity in the US, but higher in the UK, which leads the UK to be considered the most attractive international market to sovereign investors globally. Germany's scores are also strong and ranked highest of all markets on economic performance and private sector opportunities, yet its score decreases relatively on sovereign investor attractiveness.
Increasing risk appetite and time horizons, and reducing home market bias
The geographical and asset allocation preferences of global sovereign investors are also indicative of their current risk appetite and time horizons, and bias towards their home market. In 2012, sovereign investors increasing new asset placements in alternatives typically cited a decrease in equities and global fixed income. Similarly, those increasing new exposure to emerging markets were typically decreasing exposure to developed markets. Yet in 2013, these dynamics changed and those increasing new allocations to alternatives instead decreased their allocation to home-market fixed income or cash, rather than global fixed income or equities.
An average increase in target returns and lengthening of time horizons can also be observed in this year's study, which is consistent with increasing exposure to risk assets like equities. Furthermore, those increasing new assets in emerging markets in 2013 typically cited a decrease in home market allocations rather than developed markets, with 11% of sovereign investors having reduced home market allocations in 2013 on a net respondent view basis.