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#Investments — 15.11.2017

What Are The Main Trends In Strategic Asset Allocation?

Sophie de La Chapelle & Mélanie Mortier

What can be learnt from the average allocation of high net worth individuals and endowment funds of American universities?

Without a doubt, seeking to understand the main trends in strategic portfolio allocation (by major asset class) is a very worthwhile exercise. Indeed, we can gain invaluable insight into the asset allocation of endowment funds at leading American universities as well as the average allocation of individual investors.

The wealthiest investors around the world favour equities…

In the World Wealth Report 2017, published by Capgemini earlier this month, a survey of more than 2,500 individual investors with more than €1 million in investable assets based in 19 key cities of North America, Latin America, Europe and Asia-Pacific, reveals the structure of and changes in their average asset allocation.

If we look more closely at the period between 2016 and 2017 we notice a marked upswing in the equities allocation (from 24.8% to 31%), a five-year high. This trend is particularly apparent among European investors who appear much more confident than in 2016. Indeed an increasing number of them estimate that their wealth will grow (85% vs. 62.5% previously).

Interestingly, the proportion of cash and cash equivalents in their portfolios also grew from 23.5% to 27.3% over the period, suggesting that they sought to offset the higher risk carried by their larger exposure to equities. The increase was even larger for Ultra High Net Worth Individuals (UHNWIs) who attached more importance to avoiding losses and creating a safety net.

The bond allocation remained unchanged over the period, which is not surprising in view of the stable environment over the past year that remains threatened by a rate increase in the short to medium term.

That said, what is astonishing for this group of investors historically exposed to real estate is that the allocation in this asset class tumbled from 2016 levels (from 17.9% to 14%). This may be explained by HNWIs considering property valuations too high even though property prices continue to rise in all major markets, foreshadowing a burst in the bubble. Note that wealthy American investors are particularly nervous about real estate, reflected in their allocation which is the lowest of all the regions under review.

Finally, the allocation in alternative investments (including structured products, hedge funds, derivatives, Forex, commodities and private equity), reached its lowest level since 2013 (9.7% vs. 15.7% in 2016) as a result of the significant rise in the equities bucket.

However, this last point needs to be put into perspective because alternative investments (including private equity, hedge funds and real estate), particularly private equity, remain the favourite investment category of UHNWIs.

What can we learn from endowment funds at large American universities?

To complete this overview of the main trends in asset allocation, we looked at the endowment fund of Stanford, a long-term investor par excellence! Half of the fund’s allocation is made up of alternative investments and private equity, with equities representing a third, and the remaining chunk in bonds (6%) and commodities (9%). It is clearly a growth-oriented allocation but the infinite investment horizon of this type of fund compensates for the level of risk taken!

Furthermore, we found the same type of allocation in Yale’s endowment fund which also favours private equity (30% of the allocation) and in Harvard’s (20%).

An interesting insight into trends: necessary but not sufficient…

These different surveys are useful for identifying some main trends in asset allocation. But they also show that it is very difficult to generalise, and in reality, allocation choices may vary considerably according to an investor’s overall net worth and investment horizon. So very long-term investors and UHNWIs will increasingly turn to alternative investments and private equity in order to capture performance, while less wealthy, medium-term investors who have more difficulty gaining access to these asset classes will prefer equities. Some things don’t change: the bond allocation is stable or in decline in most asset portfolios, which can be expected due to the current interest rate environment.

In any case, apart from these instructive examples—which do not in any way represent models to replicate—we take away one fundamental principle: reflecting on one’s goals, especially the investment horizon, is essential for building an asset allocation.