The big issues for pension funds in 2011

Mercer Investment Consulting has published its predicted top trends for pension funds in 2011. With continued economic uncertainty around the world, Mercer expects further tight credit markets, a re-evaluation of the equity risk premium, concern about currency risk, and further allocations to emerging markets.

The major trends are:

1.     The ‘two-speed’ world economy will see a flight to emerging markets.

2.     Investment strategies will continue to be scrutinised in the context of evolving deflation/inflation risks.

3.     Capital imbalances will lead investors to consider the opportunity/risk dynamic.

4.     Investors will review their reliance on the equity risk premium and/or home bias.

5.     Asset allocation and portfolio structuring will evolve and result in the creation of more robust portfolios.

6.     More investors will exploit capital market deviations through medium-term asset allocation ‘tilts’.

7.     A weak US dollar will highlight the impact of currency on investment returns.

8.     Regulation will continue to evolve in the post- global financial crisis environment.

9.     Environmental, Social and Governance (ESG) factors will continue to be integrated into investment decision making.

10. Investors will place greater emphasis on operational variables and investment efficiencies.

11. Demand for better retirement income options will gain momentum.

Mercer’s client note last week says: emerging markets such as China and India are increasingly attractive to investors. The rise of ETFs makes access to them a lot easier than in years past.

The traditional bias in equity portfolios – towards developed markets and a fund’s home country – need to be assessed for better diversification and improved defensive qualities.

Mercer says a weak US dollar highlights the impact of currency on overall returns. In the past 22 years, the difference between hedged and unhedged international shares, for Australian investors, for instance, has averaged 10 per cent or about 3 per cent of the average balanced fund’s overall returns.

“The management of the medium-term extremes mispricing should be a key part of any fund’s armoury,” Mercer says.

And in a low-return world, operational efficiencies will become more important, particularly in areas such as foreign exchange and trading in unlisted assets.