Sovereign wealth funds (SWFs) are putting an increasing amount of their money into alternative assets, according to a new report, ‘The rising attractiveness of alternative asset classes for sovereign wealth funds’, from PwC.
The report finds that SWFs – the largest of which is Norway’s NOK8.3 bn ($1.1 bn) government pension fund – are now allocating 23 percent of their assets under management to areas such as private equity, real estate, gold and infrastructure.
As oil prices have fallen and fixed income instruments – such as government bonds –have produced lower yields, SWFs have been compelled to diversify, according to PwC. Their allocation to fixed income has dropped from a peak of 40 percent in 2013 to 30 percent in 2016.
‘We expect alternatives to be prominent in SWF portfolios in the future as they can offer increased diversification, principal protection, a hedge against inflation and an increase in portfolio performance,’ says Will Jackson-Moore, PwC’s global head of sovereign investment funds and private equity, in a statement.
‘That said, finding the right allocation strategy for these asset classes is crucial because including certain alternatives might introduce a new set of risks such as illiquidity, complexity and cyclicality.’
Equities, another SWF investment vehicle, have seen sustained popularity, with allocation remaining at 44 percent last year. But private equity, which allows SWFs to invest in non-listed companies for a longer period, has become one of the hottest alternative classes, with SWFs dedicating $45 bn to the strategy in 2016.
‘The asset class performed well in recent years, with returns of 13.6 percent[style] over the five-year period,’ notes PwC’s report, though real estate and infrastructure have the greatest allocation in terms of the number of SWFs investing in them.
Though interest rates are likely to rise soon in Europe and the US, PwC predicts that SWFs’ allocation to alternatives will continue to grow as their expertise increases and equities prices level out.
‘Given that certain experts expect a correction in the market in the short to medium-term, the relevance of both principal preservation and downside protection could become more pronounced,’ states the report.
And Jackson-Moore notes: ‘SWFs should keep in mind the need for continuous monitoring of their portfolios and their investments and reallocate their capital to reflect economic developments.’
