North America still dominates Canadian DB plan alternative allocations
Since standard banks began to shy away from their traditional financing role after the 2008 financial crisis, institutional investors have helped maintain markets by becoming increasingly important providers of long-term capital.
Historically low interest rates also pushed these sovereign wealth and pension funds away from the traditional fixed income bedrock of their portfolios into a bevy of alternative investments, said Jon Lofto, director of alternatives at CIBC Mellon, in a webinar hosted by the Association of Canadian Pension Management on Wednesday.
“Canadian institutional investors have been largely ahead of their global peers,” said Lofto. In 2006 Canadian defined benefit plans allocated 15.3 per cent of their portfolios to alternatives. This has more than doubled, reaching 35.2 per cent in 2018, he noted.
Currently, the appeal of North American alternatives remains dominant. Citing his firm’s research, he said North America remains the heavy favourite across all alternative asset classes when it comes to where pension plans want to allocate further. All plans surveyed said North America is where they’d look for more hedge fund exposure, followed by private equity (96 per cent), real estate (92 per cent), private debt and loans (89 per cent) and infrastructure (77 per cent).
Notably, the survey found infrastructure was the only asset class for which a significant number of pension plans were interested in investing outside of North America, with 21 per cent saying their top allocation priority was Asia, with the remaining two per cent interested in Latin America.
“The Asia region is one that’s had a vast amount of development in recent decades and that’s one reason it’s attracting a large share of investment,” said Lofto. “There is also the advent of a strong growth in the middle class. That’s really driving expectations in the Asian real estate market.”
As for current allocations, hedge funds were the least geographically diverse, with 100 per cent of plans saying they have North American exposure and just nine per cent in Europe. Indeed, Europe was the second most popular destination for pension capital in alternatives, with 79 per cent of plans indicating they hold European private equity, 54 per cent holding private debt and 38 per cent invested in real estate. For infrastructure, however, Asia-Pacific was the most popular region after North America, with 39 per cent of plans exposed there.
“There’s a big gap in infrastructure spending [in Asia-Pacific]. After the 1997-98 Asian financial crisis, there was really a lack of infrastructure spending,” noted Lofto. The quality of the institutional frameworks in Asia set the region apart from other areas where infrastructure spending is also needed, better attracting foreign capital, he added.
Overall, allocations to alternatives aren’t stopping anytime soon, with 58 per cent of plans indicating they intend to increase them, while no plans said they intend to decrease them.
“Alternative investments are really here to stay,” said Megan Gentilesco, director of alternative investment services at BNY Mellon. While global monetary policy was a primary factor in pensions moving into alternatives and away from fixed income, more than 80 per cent of plans surveyed indicated they would remain committed to at least their current allocations to alternatives, even if monetary policy returned to more normal levels, she added.