03/05/2011
By Matt Ritchie
European pension funds are more concerned about inflation than they were last year, and many are taking steps to protect their assets, according to a survey by consultancy firm Mercer.
The annual European Asset Allocation Survey covered more than 1,100 European funds, and found some 80% of respondents were more concerned about inflation this year than last.
Of the funds concerned about inflation, 38% planned immediate action to protect against shocks. Announcing the results, Mercer said 18% planned to increase their allocation to inflation-linked bonds, 5% were allocating to inflation-sensitive assets and 3% to inflation swaps.
The remaining 12% have taken some other action, such as establishing processes to exploit opportunities as they arise either through the use of discretionary management or by introducing a series of triggers that, once hit, will increase their allocation to inflation bonds or swaps.
Mercer’s head of investment consulting for Europe, Middle East and Africa Tom Geraghty said the last 12 months have been characterised by a general sense of unease and rapid swings between optimism and fear. Loose monetary policies and quantitative easing have created the ideal environment for the re-emergence of inflation, he said.
“Protection, through acquiring inflation hedging assets (such as inflation bonds and swaps), looks to be expensive and there is a risk that such investments provide ‘insurance’ for events that never actually happen. Pension funds also need to understand the extent to which their liabilities are affected by higher inflation. In some cases, inflation caps may mean that higher inflation is less negative for pension schemes than might be expected.”
The survey found both Ireland and the UK had a bias to equities, though this continues to decrease year-on-year. In the UK allocation to equity was at 47%, down from 50% in 2010 and a 20 percentage point decrease since the survey started in 2003.
According to the survey Irish funds have seen a record reduction in average equity allocations since 2010, dropping from 59% to 50%.
Mercer said allocation to equities across the rest of Europe remains low, particularly for many funds in Germany, where allocation sits at 5% due to local regulatory restrictions. In the Netherlands pension funds hold an average equity allocation of 26% and in Switzerland 30%.
Over the next 12 months, 23% of European funds and 35% of UK funds planned to reduce their exposure to domestic equities, whereas around 20% of all funds planned to increase their exposure to domestic government bonds and/or non-traditional asset classes.
Going forward, the survey indicated European funds are looking to increase their strategic allocation to a wide range of non-traditional asset classes. On average 22% of European funds intend to increase their allocation to emerging market debt, while more than 6% of European funds plan to further diversify across debt markets through allocating more to distressed debt.
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