The Future Fund has managed to limit the impact of falling equity markets on its portfolio by selling out of unlisted assets.
The Future Fund has managed to keep the impact of the market turmoil from the coronavirus to a minimum by selling out of illiquid positions in the years leading up to the crisis, keeping equity exposures low and allocating to defensive hedge fund strategies.
The $162 billion fund reported this morning a loss of 3.4 per cent over the quarter ending 31 March 2020 and ended up flat year-to-date, at a negative return of just 0.2 per cent.
By comparison, equity markets have done much worse. For example, the ASX 200 index fell 23.1 per cent, while the S&P 500 fell 19.7 per cent over the quarter.
This means that over the long term, the fund is still in a good position, posting an annual return of 9.2 per cent over the last 10 years, where it only targeted a return of 6.4 per cent.
“The Future Fund came into the current period of market disruption in a strong position,” Raphael Arndt, Chief Investment Officer of The Future Fund, said in a statement this morning. “Over recent years, we have focused on increasing portfolio flexibility and liquidity and this has included selling or reducing more than 30 individual illiquid positions.
“Our defensive strategies have performed as expected through the extreme market environment of the last quarter.
“It is too early to know whether the unprecedented fiscal and monetary policy stimulus by governments around the world will be sufficient to offset the significant impact to global growth due to the COVID-19 pandemic.
Our defensive strategies have performed as expected through the extreme market environment of the last quarter – Raphael Arndt
“As a result, while we have participated in several opportunities created by the market disruption over recent weeks, we remain cautious in terms of overall portfolio positioning. In these challenging times, portfolio diversification, flexibility and prudent management of risk remain as important as ever,” he said.
The fund hasn’t marked down its unlisted assets yet, as it only revalues illiquid assets once a year at 30 June. But the Future Fund indicated that if it would have to adjust valuations downwards by 7.5 per cent, as AustralianSuper and IFM Investors did last month, the fund’s financial year-to-date return would have been negative 3.5 per cent, while its quarterly return would have been minus 6 per cent.
“For some time, we have warned about the risks to markets and the need to position the portfolio for a range of uncertainties,” Peter Costello, Chair of the Future Fund Board of Guardians, said.
“Over the past few years, the board has been selling down a number of illiquid exposures due to high pricing and to increase portfolio flexibility. Our dynamic approach has been extremely valuable in helping us prepare for and navigate a historic dislocation brought about by COVID-19.
“As the global economic impact of COVID-19 unfolds, the board will continue to prioritise portfolio flexibility, ensuring the portfolio is robust to a range of possible scenarios and has significant liquidity,” he said.
As of 31 March, the Future Fund held $15.6 billion in cash, or 9.6 per cent of its total portfolio.
Selling Illiquids
The fund has sold down $10 billion dollar worth of private market assets over the last five years, Arndt said during a media briefing.
“We started a program about five years ago to lighten our exposure to private market assets, because of our view where they were marked relative to the risks going forward,” he said.
“Over that period we sold around $10 billion worth of private market exposure, up until a couple of years ago. That included exposures to Gatwick Airport and Southern Water.
“And then just over the last 12 months ago, we started a different process to sell down our private equity exposures in the secondary market. We’ve completed the sale of around $4 billion of exposure as part of that process, including through the recent market period,” he said.
The fund was further helped by several defensive hedge fund strategies, including volatility and options trading strategies, some of which returned double digits during the downturn.
“There were also a number of defensive strategies that have worked the way we expected them to work in a downturn, including foreign currency positions, exposure to interest rates and the defensive hedge fund strategies that we run to protect against such a drawdown,” Arndt said.
We did participate in a few opportunities alongside our hedge funds when arbitrage opportunities opened up in the pricing of some public market securities in the US, [which opened] very briefly before the Fed stepped in and closed those arbitrages
The Future Fund had been building liquidity in its portfolio, exactly for a time as today, when markets have been drawing down significantly and some of the capital has been deployed in the last couple of months to act on opportunities that have arisen from market dislocations.
“Obviously, markets have been very volatile and as a result of that there have been a number of dislocations, particularly in liquid asset markets and credit,” Arndt said.
“We did participate in a few opportunities alongside our hedge funds when arbitrage opportunities opened up in the pricing of some public market securities in the US, [which opened] very briefly before the Fed stepped in and closed those arbitrages.
“We also deployed some capital to investment grade and high yield debt, modestly, as the spreads widened,” he said.
But Arndt said risks were still elevated and he wouldn’t jump into the market in a big way.
“We need to understand what the outlook is likely going to be and we are still in the lockdown phase of this event, so we are really only going to discover over the coming months whether the earnings destruction that we are going to see in corporates is going to be offset by the government stimulus around the world.
“We don’t think now is a good time to go out and rush to buy things. But having said that we still have a lot of liquidity to buy things when the opportunity arises,” he said.
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