Buttonwood
Desperately seeking investors
If pension funds do not buy equities, who will?
Dec 1st 2012
THERE is always sadness when a long-lasting marriage falls apart. The close relationship between pension funds and equities, formed in the late 1950s, is heading for the divorce courts.
Figures from the Pension Protection Fund, an industry insurance scheme, show that British defined-benefit (or final-salary) schemes had 43.2% of their portfolios in bonds and just 38.5% in equities. As recently as 2007, the funds had an equity weighting that was double the size of their bond holdings (see chart).
.
In part this is down to the disappointing performance of equities since the dotcom bubble burst in 2000. But regulators have also encouraged funds to buy bonds, because pensions are a debt-like liability. In accounting terms, future pension liabilities are discounted using a corporate bond yield so that a higher bond weighting reduces the volatility of a scheme’s funding ratio. In addition, as final-salary schemes have closed to new members, they have become more “mature”; their membership has increasingly been dominated by retirees rather than current workers. This too has encouraged a higher bond allocation.
So the high bond weighting is not really a gamble on future returns, unlike the 81% equity weighting held by pension funds in 1993. It reflects a changing attitude to risk management. A similar shift has occurred in the portfolios of insurance companies, where regulations have encouraged a larger bond holding. All this is highly convenient for governments, which have a lot of bonds to sell.
This portfolio shift has already had profound consequences. The great insight of George Ross Goobey, the Imperial Tobacco fund manager who advocated a switch into equities in the 1950s, was that equities were a natural fit for pension funds. Stockmarkets might be volatile in the short term but over the long term, they should offer a higher return than bonds because of the link to profits growth. With their long-term horizon, pension schemes could take advantage of the “risk premium” paid to equity investors. Insurance companies reasoned along the same lines.
.
.
As a result of this process, the corporate sector gained a stable shareholder base, one that could usually be relied on to support fund-raisings and acquisitions. Where companies ignored shareholders’ wishes, the institutions also used their power to lobby for change; chief executives did not usually want to offend the likes of Scottish Widows and Prudential.
But share registers are now dominated by mutual-fund managers, hedge funds and other investors with a shorter time horizon. Such investors are more interested in seeing cash returned in the form of buy-backs than they are in seeing long-term investment plans. The stockmarket is barely used these days as a vehicle for raising capital; instead, companies are taking advantage of low (and tax-subsidised) interest rates to raise funds in the bond market.
Once the dream of every small businessman was to have a stockmarket listing. But these days fast-growing small firms hope to be snapped up by a large company with lots of cash. Quoted firms are happy to swap their listing for the embrace of private-equity groups, where they can operate out of the public eye.
So who can replace the pension funds as a source of equity capital? Private investors have lost enthusiasm for equities after suffering two bear markets in the past 12 years. They might be persuaded back into shares if they start to see them as a source of income at a time when the yields on cash and bonds are low.
Index-tracking, or passive, funds will most likely play a role. They are, in effect, obliged to buy large new issues (because they will be part of their chosen benchmark) and to support rights issues when they occur, so that they maintain the right weighting in a stock.
And then there are the sovereign-wealth funds from the developing world. They have long time horizons and little need for current income, so they should also be ideal equity owners. Some developed world governments (though not the British) are nervous about foreign ownership of “strategic” assets. But when countries run persistent current-account deficits, foreigners have to buy something; the alternative is for them to own government bonds.
Much has been made in recent years of the freedom of developed countries to devalue their own currencies and use “financial repression” to keep real interest rates low or negative. That may be bad news for pension funds. But it is also a big hint to foreign investors to concentrate on equities instead.
0 comments:
Publicar un comentario