the great court at the british museum asset allocation solutions for pension & insurance...
TRANSCRIPT
The Great Court atthe British Museum
Asset Allocation Solutions for Pension & Insurance CompaniesJohn McLaughlin
Head of Multi Asset Solutions
May 2010 | For professional investors only. This material is not suitable for retail clients
2
Getting the balance rightIs a traditional balanced approach the answer?
1. Diversification is limited to 2 or 3 asset classes
2. Benchmark is not aligned to the client’s ultimate objective
3. Focus is greatest where the opportunity is least
4. Asset allocation is slow moving and lacks conviction
5. Risk management amounts to monitoring a tracking error
6. Liabilities are difficult to match using bonds and are not particularly capital efficient
Liabilities
Bonds Equities
3
Static diversification is not enoughYou must also rebalance dynamically
Simple static diversification provides protection as the tech bubble collapses June 2000 – April 2006
50
60
70
80
90
100
110
120
130
140
Jun 00 Jun 01 Jun 02 Jun 03 Jun 04 Jun 05
MSCI AC World £ hedgedDiversified Index £ hedged
Simple static diversification offers little protection in the current down turn April 2006 – June 2009
*Diversified Index: 50% MSCI AC World TR $,10% HFRI Fund of Funds Composite TR $, 7% JPM EMBI Global Composite TR $, 10% ML Global High Yield TR $, 10% FTSE EPRA/NAREIT Developed TR $, 3% LPX50 TR $, 10%DJ UBS Future Commodity Index ER $. Rebalanced on monthly basis. Source: Thomson DataStream, Schroders. Updated 30th June 2009.
50
60
70
80
90
100
110
120
130
140
May 06 May 07 May 08 May 09
Schroder Diversified Growth Acc £
MSCI AC World £ hedged
Diversified Inex £ hedged
Dynamic multi-asset investingSay ‘No’ to the traditional approach
No Benchmark
Target an absolute risk/return outcome
No Limits
Broad diversification by
Asset type
Risk source
Investment vehicle
Equity Hedge Funds
Property High Yield
Private Equity
Com-modities
CurrencyInfra-structure
Cash Equity Illiquidity SkillTerm Credit Volatility
Easy to say, not so easy to do ….. successfully
No Surprises
Construct portfolios based on risk weighting, not trade weighting
Observe and control the portfolio through different risk lenses e.g. VaR, factor risk, liquidity risk
Use customised, quantitative risk management tools
No Fear
High conviction asset allocation:
• Capital rotation through the market cycle
• Taking advantage of valuation opportunities
• Realising investment themes
5
Equity
Determine Investment Policy
– Asset class preferences
– Conviction & Accountability
– Set stop-loss/take-profit
Global Asset Allocation Committee
Gather Information
– Outlook for asset classes
– Specialist views
– Discuss economic scenarios
Cyclical Market Forum
Models & economic cycle analysis
InvestmentStrategy
22 Fund Managers and Analysts
Construct Portfolios
– Sizing positions
– Fund / Vehicle selection
– Monitor risk & return
Fund Management & Analysis
Schroders asset allocation modelAsset allocation is hard to do well
Alternatives
5 Independent Multi-Asset Specialists
40+ Senior Fund Managers / Analysts
53
163
67
Fund Managers
& Analysts
Fixed Income
Quarterly Monthly Daily
Source: Schroders, 31 December 2009*Team of 30 includes portfolio management, quant analysis, research, trading and support
5 macro economists
Optimisation, risk analysis, hedging
Risk Management
16 quants and derivative experts
Specialist resources are necessary - lots of them
6
− Global asset allocation committee members sponsor and co-sponsor ideas
− Challenged by colleagues
− All ideas structured as long/short positions
− Analysis to ensure risk control and diversification
− Implemented quickly, to take advantage of market conditions
− Accountable and transparent process
Global Asset Allocation Committee
Global Asset Allocation
Committee (monthly)
5 Voting MembersAlan Brown, Keith Wade, Johanna Kyrklund,
Simon Doyle and Richard Coghlan
Keith WadeCashvs.Short Equities
Keith WadeJohanna KyrklundG3 Currencies
vs.Long Emerging Market Currencies
Johanna Kyrklund
Alan Brown
Co-SponsorSponsor
Long High Yield Debt
vs. Cash Johanna Kyrklund
Long Investment Grade
vs. US Government
Bonds
Keith Wade
Long Pacific Basin Equities
vs. US Equities
Richard CoghlanCashvs.Long Equities
Johanna KyrklundG3 Currencies
vs.Long Emerging Market Currencies
Simon Doyle
Alan Brown
Co-SponsorSponsor
Long High Yield Debt
vs. Cash Johanna Kyrklund
Long Investment Grade
vs. US Government
Bonds
Keith Wade
Long Can $ vs. Australian $ Richard Coghlan
Source: Schroders, for illustration only
Asset allocation in practiceGetting ideas into the portfolio – the Schroders way
Implementing your ideas efficiently – Active or Passive funds ?Getting “Bang for your Buck”
Source: Lipper Hindsight, February 2010
Percentage of funds outperforming benchmark
– Some benchmarks are much harder to beat than others
– Focus on selecting actively managed strategies only in inefficient asset classes where high probability of achieving positive alpha exists
– Avoid paying active management fees where probability of positive alpha is low by selecting low cost passive funds
Index +1% +2% +3%
European Money market 5 1
Swiss Equities 12 2
European Govt Bonds 15
Japanese Small Caps 16 10 6 3
UK Equities 20 16 8 3
US Agg Bonds 21 9 5 4
Emerging Market Debt 23 4 3 2
Emerging Market Equity 24 13 8 5
Japanese Equities 24 18 13 9
European Corp Bonds 28 14 4
European Equity 32 22 14 13
Global Equities 35 30 24 18
Global Energy 40 16 9
European Small Caps 46 36 32 27
European Financials 50 23 21 19
US Small Caps 53 45 36 29
UK Agg Bonds 57 25 9 2
Efficient (Passive)
Inefficient (Active)
SMART (Schroders Multi-Asset Risk Tool)
• Multi-Asset Portfolio Construction
• Risk Reporting and Decomposition
• Portfolio Simulations
• … and much much more
The right tools also make a big difference
Portfolio construction
-10-8
-6-4-20
24
80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10
Recovery
Expansion
Slowdown
Recession
Estimated USOutput GapBaseline forecast
Recession
-10-8
-6-4-20
24
80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10
Recovery
Expansion
Slowdown
Recession
Estimated USOutput GapBaseline forecast
Recession
-3-2-101234
90 92 94 96 98 00 02 04 06 08 10
Normalised over10 years
+/- 1 SD
Equities cheap
Equities expensive
-60
-40
-20
0
20
40
60
80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10
Equity total returnY-on-Y %
BUY equities
Sell equities
Quantitative frameworkCyclical model1
Valuation model2
Momentum model3
1 Source: Congressional Budget Office (CBO), Thomson DataStream, Schroders 2 Source: Thomson Datastream. Normalised Earnings yield minus bond yield3 Source: Thomson Datastream. Equity year on year return
9
Source: Schroders. Chart shows monthly performance for the Global Tactical Asset Allocation portfolio. The Strategy was operating on a live basis in a managed account with £4 million of Schroder seed capital from January 2008 until April 2009. Performance shown is past performance. Past performance is not necessarily a guide to future performance. The value of investment can go down as well as up and is not guaranteed.
100
105
110
115
120
125
Jan08
Mar08
May08
Jul08
Sep08
Nov08
Jan09
Mar09
May09
Jul09
Sep09
Nov09
Jan10
Mar10
Global Tactical Asset Allocation 3 month £ LIBOR
Ann. strategy return: 9.80%Ann. strategy volatility: 6.41%Ann. LIBOR return: 2.93%Ann. excess return: 6.87%
Solution 1: Global Asset AllocationProof that the processes and the resources work!
Investment Features
– Aims to provide absolute returns which are uncorrelated with other asset classes
– Performance target of 10% above cash gross of fees over rolling 12 months
– Volatility target of 10-15% p.a.
Benefits
– Almost all positions implemented through derivatives, keeping transaction costs low
– Fund uses Schroder’s proprietary risk software to optimise allocations and manage risks
– More liquid and transparent than many macro funds
– Diversifying within portfolio
10
Solution 2: Diversified Growth FundEquity like returns with 2/3 the risk of equities
Source: Schroders as at 26 February 2010. Please note that this is indicative exposure only and may change, subject to market conditions and outlook*Private Equity includes allocation to Schroder PEFOF IV plus 1 listed externally managed fund. Total may not sum to 100 due to rounding
Externally Sourced
Schroder ISF US Small & Mid Cap 9%Schroder ISF QEP Global Quality 7%Schroder ISF QEP Global Active Value 6%Schroder ISF European Special Situations 3%Schroder ISF Emerging Markets 3%Schroder ISF Asian Equity Yield 3%Schroder ISF European Equity Alpha 2%Schroder ISF European Allocation1%Passive Equity Derivatives 10%
Equities 44%
Commodities 10%
Convertibles 4%
Inv. Grade Bonds 6%
High Yield Bonds 9%
Em. Market Debt 11%
Private Equity 2%
Cash 8% Cash 8%
Property 4%Schroder ISF Asia Pacific Property Securities 3% Invista Foundation Property Trust REIT 1%
Private Equity* 2%
Absolute Return 2% JP Morgan Highbridge Statistical Market Neutral Fund 2%
Infrastructure 3% International Public Partnerships 2%HSBC Infrastructure Company Ltd Ordinary1%
Schroder ISF Emerging Market Debt Absolute Return 6%PIMCO Emerging Market Bond Fund 5%
Schroder ISF Global High Yield 6%Bluebay High Yield Fund 3%
Schroder ISF EURO Corporate Bond 3%Vanguard Inv Grade Credit Fund 3%
Schroder ISF Global Convertible Bond 4%
Schroder AS Commodity Fund 4%Schroder ISF Global Energy 4%ETFS Gold 2%
Ta
ctica
lS
trate
gic
100
110
120
130
140
150
160
170
Time
A smoother path of returns over time
Global Equities
Diversified Growth Fund
CPI +5%
11
Source: Schroders, as at 1 March 2010
Designed specifically to ‘complete’ a growth portfolio of equities
Targets cash + 4% p.a. over rolling 5 year periods
Maintains a beta of less than 0.5 to equities
Full ongoing governance responsibility
– Manager selection
– New asset classes as appropriate
Transparent fees
Return from Dec 07 to Dec 09: +5.8% p.a.
Solution 3: Diversified Completion FundFully managed access to alternative investments
Asset Allocation as at 1 March 2010
High Yield Debt 19% Commodities 14%
Hedge Funds 11% Emerging Market Debt 11%
Infrastructure 7% Catastrophe Risk 6%
Property 6% Leveraged Loans 4%
Private Equity 3% Active Currency 2%
Convertible Debt 2% Cash 15%
12
-50
-40
-30
-20
-10
0
10
20
30
40
19
88
19
89
19
90
19
91
19
92
19
93
19
94
19
95
19
96
19
97
19
98
19
99
20
00
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
20
09
Strategy Equity Market
Solution 4: Global Dynamic Balanced Fund
Return %
Source: Schroders, Datastream as at 31st December 2009. Backtested performance until 31st December 2008, live performance from 1st January 2009. Live performance is gross of fees using NAV for I shares. The simulated results must be considered as no more than approximate representation of the strategy’s potential performance. They are the result of back-testing quantitative research results, which are based on a number of assumptions. There are a number of limitations on the retroactive reconstruction of any performance results based on simulations. Past performance is not a guarantee of future results
Schroder Global Dynamic Balanced Fund
– Like the Diversified Growth Fund, but with a systematic overlay that exits the market during a downturn
– Aims to limit drawdowns to -10% in the worst years for risk assets
– Active allocation to risk assets, between 0% and 60%
Limiting the downside
Calendar Year Performance
Avoiding bursting of tech bubble
Avoiding worst of credit crunch
13
New solutions: Real assets fundThe ‘real’ answer to future inflation?
Asset Strategic Weights
Current Views
DJ AIG CMCI Commodity Index
25% 28%
TIPS 20% 10%
CS Leveraged Loans 10% 12%
ELMI+ 10% 20%
FTSE EPRA/NAREIT Global
10% 3%
MSCI Energy 10% 10%
MSCI Metal and Mining 10% 7%
MSCI EM 5% 5%
High dividend stocks n/a 5%
-60%
-40%
-20%
0%
20%
40%
60%
80%
88 90 92 94 96 98 00 02 04 06 08% c
on
trib
uti
on
to
CP
I- U
y/y
-60%
-40%
-20%
0%
20%
40%
60%
80%
88 90 92 94 96 98 00 02 04 06 08% c
on
trib
uti
on
to
CP
I- U
y/y
Source: Bureau of Labour Statistics, Data Stream, Schroders. *Food and beverages & non durables less food and beverages
-30%
-20%
-10%
0%
10%
20%
30%
88 90 92 94 96 98 00 02 04 06 08% c
on
trib
uti
on
to
CP
I- U
y/y
Commodities*
Rent of shelter
Durable goods
14
Year 10 Year 25
Monthly drawdown paymentsfrom Year 11 to Year 25.
Coupons are deducted from the NAV
Drawdown Period
Maximum allocation to growth assetsNo drawdown distribution
Accumulation Period
Payments set at 5% p.a.of highest recorded NAV
during the accumulation period
Protected Drawdown
100%
Inception
NAV
Highest NAV
Final NAV is paid out to the investor.A proportion of the Bonus Payout
will be incrementally protectedif the NAV of the fund is high.
Bonus Payout*
* Subject to market conditionsSource: Schroders
New solutions: DC pensions market‘Pension Plus’ – your retirement supplement
Liabilities
Bonds
Bonds Equities
Bonds for liability coverage
– Accuracy of liability matching is limited
– Extent of coverage broadly limited to size of bond portfolio
– Low expected return
– However, longer dated gilt yields are higher than swap yields
LDI Swaps
Swaps Growth assets
Liabilities
Swaps for liability coverage
– Better accuracy of liability matching
– Extent of coverage can be much larger than assets in LDI portfolio
– Frees up assets to pursue growth strategies
– Lower yields at longer maturities than gilts
Matching liabilities – bonds or swaps?A Comparison
Source: Schroders, for illustration only
Backing assets
Liability coverage
Return Generating AssetsCash
Dynamic Allocation
Key :Liabilities
Interest rate and inflation swaps
Return Generating AssetsCash Buffer
Swap Overlay
Portfolio Structure
Portfolio Management
Cash Holdings
10% 5%
Interest rates fall / Inflation rises
Interest rates rise / Inflation falls
Note: Percentages shown above for illustration only. Actual amounts depend on the structure of the hedge
Source: Schroders, for illustration only
Liability Driven InvestmentReducing liability risks - using swaps rather than bonds
85%
Schroders LDI – the third generation solutionPlatform structure and management
Dynamic Allocation
Key :Liabilities
IRS and inflation hedge
Cash Fund Return generating assetsCollateral
Liability management
Return Generating AssetsCollateral
Portfolio structure
Portfolio management
Cash Holdings
Cash movement
Cash movement
Synthetic credit
Longevity swaps
18
Conclusion
– Diversification is your first defence against market uncertainty
– But diversification by itself is not enough, it must also be dynamic
– Your asset allocation is what matters most – so make it your main focus
– Be obsessive about risk, and the returns will look after themselves
– Risk and return objectives should be ‘real’, not ‘relative’
– Be capital efficient when matching your liabilities
Say ‘No’ to a traditional balanced approach; say ‘Yes’ to dynamic asset allocation
19
For Professional Investors only. Not Suitable for Retail Clients
This presentation is for information purposes only and it is not intended as promotional material in any respect. The material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. Schroders has expressed its own views and opinions in this document and these may change. Information herein is believed to be reliable but Schroder Investment Management Ltd (SIM) does not warrant its completeness or accuracy. This does not exclude or restrict any duty or liability that SIM has to its customers under the Financial Services and Markets Act 2000 (as amended from time to time) or any other regulatory system
The forecasts stated in the presentation are the result of statistical modelling, based on a number of assumptions. Forecasts are subject to a high level of uncertainty regarding future economic, and market factors that may affect actual future performance. The forecasts are provided to you for information purposes as at today's date. Our assumptions may change materially with changes in underlying assumptions that may occur, among other things, as economic and market conditions change. We assume no obligation to provide you with updates or changes to this data as assumptions, economic and market conditions, models or other matters change
Issued in July 2009 by Schroder Investment Limited, 31 Gresham Street, London EC2V 7QA. Registration No 2015527 England
Authorised and regulated by the Financial Services Authority
Important information