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Institutional investors weather the great rethink


A “dramatic and sobering” first quarter has seen institutions re-think everything from ESG to hedge funds as the job of investing becomes harder in a more dangerous world.

Recent surveys of global institutions have unearthed an increasingly gloomy outlook from our biggest investors as they scrutinise the new inflation paradigm and a more multi-polar geopolitical environment. Institutional investors are pondering a wall of worry, and a new bfinance snap poll of some 418 investors from 39 countries – including 162 pension funds and 82 insurers, endowments, family offices, sovereign wealth funds, and wealth managers – found that Russia’s invasion of Ukraine has now seen a wide rethink of ESG.

Around 52 per cent of investors had no exposure to Russia, appropriately cowed by its flagrant abuse of human rights and the burgeoning geopolitical risk that stemmed from its increasing belligerence towards its neighbours through the 2010s (“We exited Russian investment end Q4 due to ESG/human rights and had sold off most (but not all) before war/sanctions began” said one Netherlands-based pension fund).

But the snap poll also highlights the difficulties that institutions have had in actually exiting their Russian investments; while global institutions (and Australian super funds) announced their intention to divest, the fact that the Moscow Stock Exchange was closed – and that local brokers were barred from selling securities on behalf of foreign investors – meant investors found it hard to do anything beyond make an announcement and write the assets down to nothing.

Indeed, some 35 per cent of institutions surveyed were still trying to sell their Russian holdings but were “obstructed by illiquidity and lock-ups.”

Around 39 per cent of respondents said that the great Russian freakout had caused them to rethink their ESG approach, or that of their external managers. Four per cent said the question was irrelevant – they don’t consider ESG matters – while others in the remaining 57 per cent said that, while the invasion and its consequences did not have an impact on their ESG approach, it still “reinforced the need for a sophisticated ESG approach.” EM exposures, “controversial weapons” and fossil fuel firms are also expected to come under “particular scrutiny.”

One Netherlands-based pension fund said it expects a “rethink on controversial weapons exclusion lists… (and) more scrutiny on role of state-owned companies and companies that otherwise act as extensions of the state, where the state was blacklisted under our ESG policy (though Russia wasn’t blacklisted under our criteria prior to the invasion).”

Notably, “controversial weapons” as an investment screen often only captures cluster bombs and anti-personnel landmines. There are only a small handful of companies in the world that manufacture key components of cluster bombs, a number of which are state-owned.

Hedge funds have also made a comeback in the chaotic first quarter, garnering, alongside alternative risk premia (ARP) funds, the highest levels of satisfaction from investors: 57 and 51 per cent respectively. At the other end of the spectrum, only 24 per cent of emerging market debt investors and 23 per cent of emerging market equity investors were “mostly satisfied” with the performance of their managers.

Asset allocation is still following the rough forecasts put out by CIOs and industry commentators, with many institutions renewing their interest in infrastructure and other real assets in a more muted environment for public market returns and rising inflation (some four in five investors expressed concern that inflation and rising rates would impair their ability to achieve medium-term investment objectives).

“Infrastructure and private debt were both flagged by Australian institutional investors as assets classes where they expect to increase allocations as a percentage of portfolio assets during the next 12 months,” said Frithjof van Zyp, senior director, client consulting for bfinance in Australia.

“This is perhaps not too surprising given the defensive nature and natural inflation hedge characteristics that are available with these asset classes. However, caution will be required when choosing infrastructure strategies since not all are created equal as an inflation hedge.”

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