The A$250 billion Australian government Future Fund has renewed its active vows to combat rising market risks after ditching outsourced stock-pickers six years ago.
In the latest Future Fund portfolio update, chief executive, Raphael Arndt, says investors need to “explore new ways to deliver sustainable, long-term returns” as the decades-long run of benign market conditions ends.
“The Future Fund portfolio is positioned below neutral risk settings. We are making continuing changes to the portfolio towards investments that rely on investor skill rather than market risk, reflecting our belief that this approach will be better rewarded in an environment where higher inflation and rates make market returns less certain,” Arndt says.
“Our focus remains on protecting the portfolio from a range of scenarios, including sticky inflation leading to prolonged higher rates and the risk of a global recession, while seeking opportunities to generate long-term returns.
“The risk of this type of stagflationary environment is rising.”
He told an Australian Financial Review conference last week that the Future Fund will seek skilled active managers – to be assessed by new analytical technology – for its A$65 billion portfolio of listed shares that has been in beta-mode for the previous six years.
“Paying sometimes high fees to fund managers is necessary to access skill. Because of this, investors sometimes shy away from skill-based strategies,” Arndt said. “In my view, investors should be questioning these trade-offs again.”
The Future Fund move includes an allocation to small cap shares, which has raised some eyebrows in the Australian investment sector, according to Investor Strategy News (ISN).
A number of fund managers and CIOs polled by ISN expressed skepticism about the ability of the Future Fund to generate significant returns relative to its overall FUM in the small cap space (while noting that even Norges Bank Investment Management, the largest sovereign wealth fund in the world, invests in funds and strategies that some might consider sub-scale). Most posited that the Future Fund might instead be running a small pilot program to explore the feasibility of returning to active equity management generally.
They also questioned whether any small cap managers would be willing to suffer the counterparty risk of taking Australia’s sovereign wealth fund as a client, though some hypothesized that the program could be run as a bespoke strategy through one of its existing Australian equity managers (Macquarie Asset Management/UBS Securities).
Arndt said in the speech last week that “alpha and skill-based strategies have always been integral to the Future Fund’s approach”.
“In today’s environment, where the role of beta is challenged, the role of alpha in portfolio construction is more important than ever. In other words – just having capital is no longer enough to ensure decent returns,” he said.
“A previously considered safe investment like an office building or shopping centre is no longer safe. A large cap company can be split up, regulated or its markets disrupted. There are no set-and-forget investments anymore.”
The core Future Fund – designed to defray Australian public pension liabilities (similar to the NZ Government Superannuation Fund) – currently invests about half of its A$200 billion portfolio in unlisted and alternative assets, a third or so in listed equities with the remainder in cash (10.6 per cent) and bonds (8.2 per cent).
As well, the government investment operation runs five other funds aimed at various policy objectives including medical research, disability, disasters, drought and indigenous Australians – each with different asset allocations.
While the NZ Superannuation Fund retains a large indexed global equities component (albeit with significant factor tilts and a recent shift to a new Paris climate agreement-aligned benchmark), the NZ$60 billion fund has also recently increased the number of active third-party managers in bespoke alpha-generating mandates.
With additional reporting by Lachlan Maddock is editor Investor Strategy News (Australia)