Investors Prepare For End Of Easy Money

According to key findings from Allianz Global Investors' survey of nearly 400 senior decision makers at institutional investors from 41 countries around the world, institutional investors across the world are most concerned about tail risk and rising interest rates as they begin to position their portfolios for the end of ultra- loose monetary policy in developed markets.

While only a minority of respondents expect interest rates to rise towards their long-term historical averages before 2015, rising interest rates and tail risk are seen as most prevalent economic risk factors affecting investment performance over the next three years. A quarter of investors see rising interest rates as a "great risk" and further 31 per cent see this as a "considerable risk". Likewise, 20 per cent of respondents describe tail risk as great and an additional 39 per cent view it as considerable.

Investors also recognize the double-edged nature of loose monetary policy with 59 per cent of the respondents believing that the actions of central banks have stimulated short-term GDP growth while nearly as many see an increase in inflation (57 per cent), an increase in systemic risk (55 per cent) and a deterioration in the health of the retirement savings system (54 per cent) as side effects. Over two thirds of investors (68 per cent) believe that the monetary policies of developed nations in the past five years have increased the risk of abnormal price distortions in the fixed income market.

Investors re-discovering their appetite for risk-taking

In contrast to concerns about fixed income, investors' attitudes towards equity risk are somewhat more benign. For 60 per cent of the respondents, equity risk is seen as likely to pay off over the next three years (credit risk was mentioned by only 32 per cent). More than 90 per cent of investors surveyed expect global equities to generate positive returns over the next three years, with the average expected annual return coming out at 6 per cent.

Commenting on the findings, Elizabeth Corley, CEO of Allianz Global Investors, said: "Like the investors surveyed, we expect monetary policy to be accommodative for quite some time. Nevertheless, respondents are understandably already preparing for a world where interest rates increase from their historic lows. Bond holders are rightly concerned about capital losses when rates start to rise again as well as the inability to generate positive returns in the meantime. It is encouraging that investment in risk assets – equities – is seen as the most likely asset to pay off in the coming year."

Key US Findings

US investors are likely to see equity risk as a principal source of returns over the next three years. Compared to European investors, they are more likely to see credit risk as a source of return (40 percent vs. 28 percent). Interest rate risk is cited by 34 percent of US investors as a likely source of return in the years ahead, while less than 20 percent of respondents from Asia Pacific have such an expectation.

US investors are notably less likely to perceive financial risk to investment performance in all risk categories compared to investors in Europe and Asia Pacific. Most notably, only 21 percent of US investors see foreign exchange risk as a great or considerable threat to investment performance, while 34 percent of Europeans and 55 percent of those from Asia Pacific hold this view. Similarly, default risk on sovereign debt is a great or considerable risk to 21 percent of US investors, but poses such risk to 50 percent and 41 percent of investors from Europe and Asia Pacific, respectively.

Commenting on the US findings, Brian Gaffney, CEO US of Allianz Global Investors, said: "US Investors are concerned with rising interest rates and tail risk. They are looking to risk assets for long-term solutions."

The cost of regulation

Although investors largely acknowledge the need for and benefits of greater regulation, 73 per cent of the survey respondents say that regulation comes with a price and just over half of respondents expected the policy climate to become less favourable in the next three years. Pessimism about the regulatory environment is particularly evident in the responses from Europe. On average, the net effect of regulation is seen to hold back annual investment performance by 2.3 per cent.

Of the regulatory and governance factors most likely to threaten investment performance, stricter government regulation and new capital controls and investment requirements were identified as risks over the next three years by 34 per cent and 31 per cent of respondents, respectively. Nearly 27 per cent are concerned about the impact of political and regulatory environment on their ability to meet investment targets.

Arun Ratra, Head of Global Solutions at AllianzGI, comments: "With low yields on sovereign bonds and squeezed risk budgets, clients are challenged and are rethinking their asset allocation strategies. They look for more than managing one specific asset class against a benchmark. We clearly see demand for holistic advice and solutions that range from managing the liability side to regulatory risk reporting. For asset managers, future business success will largely depend on their ability to help clients in making capital market risk work for them in a smart way and mindful of their respective regulatory constraints."

Making risk work

Elizabeth Corley concludes: "In an era of financial repression, the consequences of ultra-loose monetary policy have clearly become a burden for sovereign debt investors and have led to a distortion of global capital flows. Given the difficult market environment and emerging regulation, risk will remain the most important topic for institutional investors in the next decades. Investors are rightly seeking real returns and taking no risk in this environment is not an option. The more clients understand about the specific risks they are taking, the better they can harness the upside and mitigate possible downsides."

Allianz Global Investors is a diversified active investment manager with a parent company and a culture of risk management.

Report Information:

http://www.allianzgi.com/riskmonitor

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