Risk appetite among sovereign wealth funds and institutional investors has improved as financial markets rebounded during the Covid-19 pandemic. With a more positive outlook for 2021, they have started to redeploy capital and have reached a risk-neutral level across asset classes, a new study finds.
Institutional investor flows into risk assets have picked up in February, particularly in equities, commodity-sensitive assets, and an aggregate asset allocation adjustment out of fixed income and cash into equities, according to the latest research by State Street Corporation and the International Forum of Sovereign Wealth Funds (IFSWF), a global network of sovereign wealth funds from nearly 40 countries.
This trend is taking place against a backdrop of a market environment characterized by declining systemic risk and declining financial turbulence in global equities. In 2020, volatility was relatively high, and the markets experienced unusual cross-sector correlations. However, both these characteristics have faded in recent months and risk concentration has continued to decline since the pandemic-induced spike observed in late February 2020, the study says.
“Long-term investors have made risk-positive reallocation decisions across asset classes, reducing cash holdings and increasing equity exposure, while also continuing to diversify their portfolios by increasing allocations to private assets,” says Neill Clark, head of State Street Associates, Europe, Middle East and Africa (EMEA), at State Street.
“Within equities, there was a marked uptick in institutional investor appetite for US listed stocks, however, emerging-market equity allocations were significantly scaled back. The current macroeconomic environment, anticipated fiscal stimulus and portfolio positioning of institutional investors and sovereign wealth funds present reasons to be optimistic as we move further into 2021.”
The research also finds no evidence of asset bubble behaviour. State Street and partner MKT MediaStats’ analysis reveals that while discussions of asset bubbles remain topical and indicates heightened concern in the media, there is no evidence equity markets are currently in bubble territory. In fact, there is further room for institutional investors to add to positions in risk assets.
Sovereign wealth funds agree that “portions of the global markets appear to be in or close to what one would consider bubble conditions” and that “financial assets do appear fully priced – to expensive”. But, as one IFSWF member says, “we are not worried about bubbles explicitly given an inability to predict when they burst” while another says “it remains to be seen what might be of greater systematic concern”.
Still, another IFSWF member voices concern over the “number of SPAC [special purpose acquisition company] IPOs [initial public offerings], the number of technology companies trading at more than 20 times revenues, the multiples that private equity funds are paying for deals, and the proportion of Russell 2000 companies that are unprofitable”.
Duncan Bonfield, chief executive of IFSWF, says: “This research reveals that sovereign wealth funds continue to seek investment opportunities in sectors, such as technology and healthcare, that have performed strongly during the pandemic, particularly in private markets, where return profiles align with their multi-year investment approaches. This behaviour underlines their institutional discipline and focus on long-term returns.”