Over the last 10 years there has been a significant shift by pension funds away from balanced mandates towards multi-asset and specialist mandates says
Mellon Analytical Solutions, the performance and analytics arm of Mellon Financial Corporation. To illustrate, the average number of portfolios within funds
has more than doubled from 1.7 at the end of 1996, to 3.8 at the end of 2006.
Recent research by Mellon Analytical Solutions (MAS) shows that many managers have had limited success in achieving their objectives in respect of a
number of key specialist mandates. MAS looked at the performance of UK Equity and Global Equity mandates, against both benchmark and objective, over rolling
three-year periods to the last 10 calendar year-ends. Its research found that in both cases, managers generally performed well against benchmark but much
less well against their specified outperformance targets, before fees.
Over half of UK Equity managers beat their benchmark in six out of the 10 periods measured. However, a majority of managers missed their outperformance
target in each one of these periods. Over the most recent three-year period to 31 December 2006, 56% of UK Equity managers beat their benchmark, while this
fell to 37% achieving their outperformance target.
It was a similar story for managers of Global Equity mandates. While over half of these managers beat their benchmark in six out of the 10 periods, they
were again less successful against their objectives. The majority of Global Equity managers failed to achieve their target in eight out of the last 10
periods. The highest success rates were achieved over three years to 31 December 2001 and 2002. Over these periods 67% and 50% of managers respectively,
achieved their targets.
MAS found a negative correlation between relative performance (against benchmark) and market performance, indicating that managers generally tended to do
better in poorer market conditions.
Daniel Hall, Mellon Analytical Solutions’ Publications and Statistics Manager said: “Some of the targets being set are quite challenging and there have
been some notable successes. For example, over three years to 2006, over half of UK Equity managers had an outperformance target of 2% p.a. or more, and 38%
of these managers achieved their target. Pension funds require a certain level of outperformance from their active managers in order to justify their fees.
Our results suggest that funds need to select and monitor their active managers carefully to achieve the additional value they are looking for.”
Pension fund results 2006
The weighted average return for UK pension funds for 2006 was 9.1%, confirming earlier estimates. This is the fourth consecutive year of positive
performance for pension funds, following the poor performance at the start of the decade. Over the last five years, UK pension funds achieved a weighted
average return of 7.6% p.a. which represents a real rate of return of 4.4% p.a. against Retail Price inflation and 3.6% p.a. against earnings.
The fund median was 9.3% in 2006, indicating that larger pension funds produced broadly similar performance to smaller pension funds over the year. However,
the analysis shows that small and large schemes had different investment strategies and while the performance of smaller schemes benefited from higher
weightings in key equity sectors, larger funds benefited from higher weightings in property.
Global equity weightings continue to fall
Overall equity weightings fell for the seventh consecutive year, from 64.5% to 62.7%, largely due to pension funds continuing to reduce their exposure in
the UK. Over the year, average UK Equity weightings fell from 35.7% to 34.4%, their lowest recorded level since our records began in the mid 1970s.
Weightings in Overseas Equities also fell, from 28.8% to 28.3%.
Japanese Equities saw the biggest fall of 0.8% over the year, from 5.1% to 4.3%. By contrast European Equity weightings rose by 0.3%, from 9.2% to 9.5%.
After year-on-year increases since the end of 1996, US Equity weightings fell back slightly in 2006, from 9.7% to 9.5%. As weightings in equities fell,
exposure to bonds and property increased. UK corporate bonds rose by 0.5% over the year to 11.7%, putting weightings ahead of government gilts. Meanwhile
pension funds’ exposure to property rose by 0.8%, from 2.3% to 3.1%.
Over the longer-term we have seen some significant changes in the way pension funds have allocated their assets. There has been an overall shift from
equities to bonds and index-linked gilts; as well as a shift within equities from UK to overseas. Over the last 10 years, the relative weighting of equities
to bonds and index-linked gilts moved from 83%:17% to 66%:34%, while the relative weightings of UK to overseas equities moved from 72%:28% to 55%:45%.
Over the same period, the average weighting in alternative assets increased from 0.2% to 0.8%. However, since it has generally been larger funds that
have invested in alternatives, the increase in asset value terms has actually been much higher over the period (0.2% to 2.2%).
At the end of 2006, Mellon Analytical Solutions measured the performance of 488 UK pension funds, representative of 1850 separate manager portfolios, with
a total market value of £207 billion.
Notes for Editors
Mellon Financial Corporation is a global financial services company. Headquartered in Pittsburgh, Mellon is one of the world’s leading providers of
financial services for institutions, corporations and high net worth individuals, providing asset management, private wealth management, asset servicing and
payment solutions and investor services. Mellon has approximately $5.5 trillion in assets under management, administration or custody, including $995 billion
under management. News and other information about Mellon is available at www.mellon.com.
MAS information disclaimer
The performance analysis and other information in this (report and/or press release) are based on historical data and are intended for informational purposes
only. Past performance is not a guarantee of future performance. This (report and/or press release) does not constitute investment advice, nor is it an offer
or recommendation of any security, investment product, service or firm.