While allocations to equities and bonds can vary over time as market conditions change and risk increases or decreases, mid-risk assets are intended to be the steady ‘ballast in the boat’ for AustralianSuper. We speak to Jessica Melville about the evolution of this asset class.
Historically, portfolio construction has relied on two types of asset classes, growth and defensive, for setting an allocation that aligns with an investor’s risk appetite.
Determining a thoughtful mix between the two has been the basis for what has been labelled ‘the only free lunch’ in investing: diversification.
Defensive assets can include a wide range of assets, even hedge funds, but have been predominantly made up of cash and bonds.
But when interest rates fell dramatically after the global financial crisis, bonds lost much of their diversification benefits and investors started to look for other investments to diversify their portfolios.
One area that gained popularity during this time was the category of mid-risk assets.
Mid-risk, as the name suggests, sits in the middle of the risk spectrum of equities and bonds, and historically included infrastructure and property, both equity and debt. Today, the debt section includes a broader range of private credit investments.
Although investing in these types of assets wasn’t new, their role in creating well-diversified portfolios grew in importance during this time. And as the interest rate environment normalised, mid-risk assets remained a key focus for many funds.
At AustralianSuper, the asset class is seen as a fundamental part of the portfolio that deserves a consistent allocation through the market cycle, Jessica Melville, Head of Mid Risk Portfolio Strategy and Research at AustralianSuper, says in an interview with [i3] Insights.
One of the key asset allocation decisions we make is how much risk we want in the portfolio, and we express this primarily through liquid asset classes, so how much equities we hold versus bonds. Mid-risk is intended to act as the ‘ballast in the boat’ that is typically maintained at a fairly steady allocation
“One of the key asset allocation decisions we make is how much risk we want in the portfolio, and we express this primarily through liquid asset classes, so how much equities we hold versus bonds. Mid-risk is intended to act as the ‘ballast in the boat’ that is typically maintained at a fairly steady allocation,” Melville says.
“The mid-risk grouping is as relevant to our portfolio design as it is to our organisational design. There are many similarities to how we invest in infrastructure, property and private credit through structuring and underwriting transactions, and asset management, so there is a benefit to having this capability grouped together.
“Mid-risk is primarily a private market exposure, which is another reason that grouping the asset classes together makes sense. Asset allocation determines a medium-term allocation for mid-risk, allowing our teams and managers to invest along that trajectory.
“While we can’t change our allocation in days and weeks like equities and bonds, we can ‘lean in’ over a period of months and years. Through this approach we have more in mid-risk asset classes than most of our peers in Australia.”
AustralianSuper intends to hold its allocation to mid-risk assets at about 25 per cent of the portfolio, which means it will have about $150 billion in mid-risk assets by 2030, when the total portfolio is expected to grow to about $600-650 billion.
“When we talked about targeting $150 billion in Mid Risk, it was roughly a quarter of what we expected the portfolio to be at the time. So it is really expected to be a fairly steady allocation. There’ll be overweights and underweights here and there, and that will be driven by market conditions, as well as availability of assets, but that is the target,” Melville says.
Adding Strategic Levers
At AustralianSuper, the mid-risk allocation started out as real estate, infrastructure and non-investment-grade credit. The capability was centred on real asset investing through equity and debt, both through key manager relationships, as well as the fund’s internal teams.
In recognition of the increasingly close relationship between the two asset classes, AustralianSuper decided in October 2023 to merge its infrastructure and property team into one global real asset team, led by three regional real asset heads. Given the continued growth of the portfolio outside of Australia, with recent examples being the M7 Logistics platform in Europe and Databank in the United States, these regional leadership roles are approaching the seniority and responsibility of the previous single global role from only a year or so ago, and hence report directly to Jason Peasley, Head of Mid Risk at AustralianSuper.
Today, some 100 people across AustralianSuper are involved in investing in mid-risk assets.
“Mid-risk, alongside private equity, has been a key driver of the global expansion of our investment teams in London and New York. With local expertise on the ground in these global markets, we are in a better position to act as a capital partner through debt or equity to deliver strong returns for our members,” Melville says.
Although she doesn’t expect to see whole new asset classes being added to the mid-risk category anytime soon, AustralianSuper does tweak the category where appropriate.
“We have added levers that strategically make sense to our context, like Middle Market Private Lending. We continuously assess the investable universe for opportunities to add strategies that can help us continue to deliver strong investment outcomes to our members,” Melville says.
“Private markets are well placed to leverage our competitive advantages of scale, long horizon and positive cash flows.”
Mid-risk and the Energy Transition
With the incoming Trump administration in the US, it is likely there will be more pushback against measures to curb climate change. For example, Trump has already announced a withdrawal from the Paris agreement.
But for many investors the transition to renewable and more sustainable forms of energy remains a key agenda item.
Paul Schroder, Chief Executive Officer of AustralianSuper, said in an interview with Bloomberg at the end of January that from a long-term perspective nothing had changed.
“It doesn’t really affect the way we invest because we’ve always pursued long-term value. So we think about investing risks very thoughtfully through that lens … and we don’t get too caught up in the politics of it,” Schroder told Bloomberg.
“Will we need to reduce emissions over time? Yes, of course we will for the future of the planet and for the ability for all markets to be successful.
“We understand that it’s from time to time politically contentious, but we’ve only and always seen [this] through the lens of making money for members. And those things are very important to consider when you’re thinking about the sustainability of earnings.”
And for AustralianSuper, investing in the energy transition will likely occur through the mid-risk asset class, Melville says.
Digital is an example of something that we can invest in, in mid-risk, but we can get a lot of exposure elsewhere. The energy transition probably does lend itself a little bit more to mid-risk than anywhere else. The reason is that there is a lot of infrastructure that's required to support the energy transition
“Digital is an example of something that we can invest in, in mid-risk, but we can get a lot of exposure elsewhere. The energy transition probably does lend itself a little bit more to mid-risk than anywhere else. The reason is that there is a lot of infrastructure that’s required to support the energy transition,” she says.
“You can invest in emerging renewable technologies like carbon capture in listed equities. It’s a very different opportunity set in mid-risk, but in terms of the scale of capital, we expect significant demand for investment in mid-risk-style assets.”
As the fund has built its mid-risk team and portfolio, AustralianSuper has taken an increasingly active role in managing these assets. The energy transition is only likely to increase this active approach to mid-risk investing as many of these assets will be greenfield-type assets.
“As our portfolio has grown, we have had the opportunity to take larger stakes in assets and with this we have accessed stronger governance rights,” she says.
“We continue to exercise our governance rights through our board representation, working with management to shape a business plan that delivers the best outcomes for our members.
“As the opportunity set evolves, we see sectors with thematic tailwinds that will drive strong growth in demand, for example, in digital and energy transition. These sectors often require an element of development and construction, which tends to be higher touch than stabilised, brownfield assets. Our GP relationships will continue to play an important role in how we access and manage these investments.”
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[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.