Seeking Yield and Income

With interest rates on cash and yields on developed market government bonds still in most cases below the rate of inflation, Seeking Yield and Income continues to be an important theme. Institutional investors are diversifying away from developed market government and corporate debt to a broader range of return-generating forms of fixed income. These may include emerging market debt (hard currency, local currency and corporate); absolute or total return strategies, such as J.P. Morgan Asset Management’s Strategic Bond Fund managed by Nick Gartside; and alternatives, such as private credit and infrastructure debt, where opportunities are arising as banks look to step back from these areas in response to regulatory pressure.

Paul Sweeting, European Head of Strategy at J.P. Morgan Asset Management, commented: "Income is a key issue for defined benefit pension schemes. If a scheme can get a higher yield, it is essentially paying less for its future income stream."

Capturing Global Growth

Although many institutions are reducing their equity exposure as they seek to de-risk and boost their income, J.P. Morgan Asset Management also sees Capturing Global Growth as a priority for the coming year. This theme is exemplified by the trend of institutions in the US and UK reducing domestic equity exposure in favour of global, international or emerging market equity mandates that allow them to benefit from the greater economic growth potential of countries and regions that have been less affected by the financial crisis, while at the same time reducing the home-country bias that still persists in many institutional portfolios.

Sweeting added: "Global growth is about more than just equities. It is important to consider the full range of possibilities to benefit from opportunities in the range of growing economies and industry sectors."

Managing Risk and Volatility

The third theme is Managing Risk and Volatility. This is not simply a question of blindly de-risking but rather of taking the appropriate levels of risk to achieve the required returns. Liability-driven investment will continue to be an important risk framework for defined benefit pension schemes and insurance companies, but in a low-growth environment it is increasingly important that institutional investors focus not just on the risk of loss, but on the risk of not meeting their objectives. J.P. Morgan Asset Management addressed this theme with its 2011 ’Risky Business’ paper on "right risking" for institutions, which can be found under Insights from Strategy at http://am.jpmorgan.co.uk/institutio... - Research and Reports.

J.P. Morgan Asset Management also expects to engage with clients in 2013 on the risks to a pension scheme and its sponsor from over-exposure to the sponsoring firm’s own business sector and related economic factors. This builds on a 2012 paper, ’The Missing Link’, which can also be found on the website.

"Pension schemes and their sponsors are gaining an ever better understanding of the risks that they face. However, having understood these risks, it is important then to consider the way in which investment strategies can be adapted to mitigate them," said Sweeting.

Monitoring Inflation

While many expected inflation to be a concern in 2012, this turned out not to be the case. However, "new paradigm" thinking is always dangerous, and it would be unwise to assume that inflation is dead and buried, particularly given the monetary easing still ongoing in the US, UK and Eurozone. And while inflation is historically low, returns on many lower-risk assets are still negative in real terms. With this in mind, the fourth theme is Monitoring Inflation, focusing on potential inflation risks over a medium to longer-term horizon. During 2012, J.P. Morgan Asset Management launched its Diversified Real Return fund in the UK, focusing on achieving an above-inflation rate of return from a diversified portfolio of traditional and alternative inflation-sensitive assets.

Innovating Today’s Defined Contribution Plans

The final theme for 2013 is Innovating Today’s Defined Contribution Plans. With the advent of auto-enrolment in the UK and a continuation of the shift from defined benefit (DB) to defined contribution (DC) plans, the DC market is set to overtake the DB market in the UK by assets under management as soon as 2019 (Source: Oliver Wyman estimate). In the past, many DC schemes have been criticised for poor outcomes for pensioners compared with their final-salary cousins, so with the vast majority of scheme members opting for the default fund option, it is vital that default funds are fit for purpose. One potential area for growth in the UK is target date funds, which are popular in the far more established DC market in the US. This is a subject that J.P. Morgan Asset Management has explored in depth in 2012, building on its prominent position in the US retirement savings market.

Simon Chinnery, Head of UK Defined Contribution at J.P. Morgan Asset Management, commented: "At J.P. Morgan, we’re looking to take our best investment thinking, whether it is from DB pensions in the UK or DC pensions in the US, and apply it to the UK DC market. A DC product suite that is simple, transparent, understandable and meets the investment needs of DC members is front and centre for us. We also need to be flexible to meet the requirements of different trustees and company sponsors in creating better default solutions for members across the DC spectrum."