Does a more volatile market environment need a more hands on approach when it comes to asset allocation? We asked Andrew Fisher at Sunsuper how the fund’s DAA and SAA programs have held up.
Despite the sharp declines at the end of the first quarter of 2020, under the influence of the coronavirus pandemic, strategic asset allocation (SAA) hasn’t stopped working, according to Sunsuper.
Dynamic asset allocation (DAA) certainly has its place, and the fund makes use of this method, but the opportunity to generate outperformance is relatively limited, according to Andrew Fisher, Head of Asset Allocation at Sunsuper.
Asked in this month’s [i3] Podcast whether the current market environment required a more dynamic approach, Fisher said:
“It always feels like that, but when you look back through the past 12 months and you look at the highest-performing funds, they generally weren’t particularly dynamic in their approach. They were incredibly passive in their approach, in fact.
When you look back through the past 12 months and you look at the highest performing funds, they generally weren’t particularly dynamic in their approach. They were incredibly passive in their approach, in fact
“Now, those funds did well, because they owned a lot of bonds compared to others who diversified into alternatives. And some of that performance may come back, I suspect.
“But despite the continued and consistent narrative that active management [of allocations] is going to do better, it seems to keep missing out. I’m not hugely convinced that strategic asset allocation has stopped working,” he said.
Sunsuper uses a combination of SAA and DAA, but Fisher said we should be realistic as to what to expect from a DAA program.
“We are cognisant that asset allocation more generally is a very limited breadth opportunity set. We think about how much active risk and how much confidence we have in asset allocation,” he said.
“[We think about] how much breadth there is and how much active risk it makes sense to take in that space and then you compare that with a much broader opportunity set, like listed shares, and we size things accordingly.
“So yes, we do all of those things. But I think it is worthwhile to remember that in a lot of cases and for most super funds, really, you have a diverse universe of members and clients and financial advisers that are using your product.
“And you need to deliver to them what it is that you’ve promised them. So if you are out there with a 70/30 option, then you need to deliver on that 70/30 option.
“We think of that as a guiding principle and then we’ll take active risk around it.”
Sunsuper did tweak its portfolio during the crisis and shifted more money into foreign currency. But Fisher said this was more a strategic choice than a dynamic one.
“The currency decision that was made was a strategic one, so that is a bigger decision in terms of our governance structure [than a dynamic decision],” he said.
Yet the DAA process also helped position the portfolio at the time when market volatility was at its highest.
“In terms of dynamic asset allocation, we were moving our asset allocation around fairly systematically throughout the crisis. So as the markets were falling, we were definitely increasing equity allocations,” Fisher said.
“My feeling is that without that systematic and structured process it would have been very hard to move as quickly as markets were moving through March and April. We did manage to do that.
“[But] it is quite painful to be buying all the way down.”
Crisis Risk Offset
With bond yields at historic lows, a number of institutional investors have sought to diversify their defensive exposures into alternative assets, including hedge funds and alternative risk premia strategies.
This model is particularly well-established in the United States, where it goes by the name of crisis risk offset, or risk mitigating strategies.
The March/April period this year is one of the first real market drawdowns where the hypothesis could be tested, although admittedly it was a relatively short and sharp downturn, which might not always give the right idea of how these things perform during a more sustained crisis.
Sunsuper has adopted some of these strategies, although not to the extent that a crisis risk offset model would. Yet, the experience has been somewhat lacklustre.
“Every crisis is different, so you shouldn’t base your defensive assets around the most recent crisis, but there were really only three things that we observed that served a meaningful purpose from a defensive asset perspective,” Fisher said.
“One is having less equities. One is having more bonds. And one is having foreign currency. Those are the three things that seem to provide some sort of cushion to a portfolio. Anything else, seems to be some variation on those three themes.
The observation has been that where we were diversified in our defensive assets was, generally speaking, where we were mildly disappointed in how our asset allocation held up
“So if you are asking about crisis risk offset, typically that is some sort of convex, short equity position. Can you get that in a cost-effective way? Potentially. It is something that we have explored in great detail.
“The observation has been that where we were diversified in our defensive assets was, generally speaking, where we were mildly disappointed in how our asset allocation held up.
“In places where we didn’t have bonds and we had allocations to other defensive assets, or a combination of assets that we thought were a combination of equities and bonds, those mid-risk assets, our experience was that that was a source of underperformance in relative terms versus just owning bonds.
“Now, that doesn’t mean that those were bad investment decisions. But in that real crisis scenario that is how they behaved and looking forward we now have a quite well-positioned portfolio given where bond yields are and given where pricing is in those assets.
“We are very happy to hold them. But you are not going to see us move substantially more away from bonds into more defensive alternatives. We probably have gone as far as we can go already.”
For the full podcast, please see here.
[i3] Insights is the official educational bulletin of the Investment Innovation Institute [i3]. It covers major trends and innovations in institutional investing, providing independent and thought-provoking content about pension funds, insurance companies and sovereign wealth funds across the globe.