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Research from the London Business School shows that the vast majority of large private equity firms – 85 percent – are feeling increased pressure from Europe’s institutional investors to incorporate environmental, social and governance (ESG) considerations into their investment policies and processes.
The study was based on responses from 42 private equity firms with collective assets under management of more than $640bn.
“Issues such as climate change, sustainability, consumer protection, social responsibility and employee engagement are no longer viewed solely as components of risk management, but have also gained recognition in recent years as important drivers of firm value, particularly in the long term,” the study said.
But even though ESG policies were being adopted more and more, there were still some big obstacles to these being implemented, the study showed.
The most notable barrier was the difficulty in collecting the necessary data, it said.
Also, some respondents cited the attitude of internal managers as a barrier to implementation.
“It appears that, while ESG integration has become common, there remain pockets of internal managerial resistance to the whole idea of considering such issues as relevant for investment decisions,” the study said.
Ioannis Ioannou, assistant professor of strategy and entrepreneurship at the London Business School, said: “The private equity industry is increasingly placing greater importance to ESG, moving it from a purely compliance and risk mitigating strategy to a key long-term strategy through which private equity firms pursue value creation.”
The slide presentation prepared for next week’s meeting identify the following three priorities:
* Proxy Access
* Climate Change
* Exploration of Income Inequality
According to the slides, “exploration” consists of the CalPERS staff reading up on income inequality (or as expressed in slides, a “comprehensive review of research and analysis related to income inequality and its impact, if any, on institutional investors”). Apparently, the staff has already started reading because the slides include this quotation from Thomas Picketty’s book, Capital in the Twenty-First Century:
“When the rate of return on capital exceeds the rate of growth of output and income, as it did in the nineteenth century and seems quite likely to do again in the twenty-first, capitalism automatically generates arbitrary and unsustainable inequalities that radically undermine the meritocratic values on which democratic societies are based.”
Neelie Kroes has called on pension funds, insurers and other institutional investors to put money into innovative companies.
Kroes made the call in a speech to foreign investors in Eindhoven on Monday, the Financieele Dagblad reports. Kroes, a stalwart of the right-wing VVD, said it is harder to get risk capital for innovative companies and that is limiting the opportunities for start-ups.
‘The Netherlands has enormous pension assets. Pension funds should be investing in venture capital funds but have not yet done so,’ the paper quotes her as saying. ‘I want to find out what the options are.’
Kroes has been appointed start-up ambassador by the government for 18 months. Based in Amsterdam, she has been charged with encouraging a new generation of entrepreneurs to develop their talents and put the Netherlands on the map as a start-up haven.
The nation’s second-largest public pension fund, California State Teachers’ Retirement System, is in talks with other institutional investors about joining forces to get stronger collective rights in infrastructure deals, said people involved in the discussions.
Members of Calstrs’s investment committee will meet Feb. 6 to discuss including new language to its investment policy that states the pension fund may “invest alongside with other like-minded investors” through “consortium investment opportunities.” The approach would be similar in investing through alliances or joint ventures.
The roughly $188.8 billion Calstrs, which established its infrastructure portfolio in 2010, has invested in that sector primarily through funds, said a spokesman. It hasn’t bid on private infrastructure investments with a club of direct investors.
The pension fund, which had a roughly $800 million infrastructure portfolio as of Sept. 30, is planning to build out its private infrastructure footprint to roughly $3 billion in the long term, senior officials said.
CalSTRS manages approximately $189 billion in pension assets.
State Street has published a new report, titled The Alpha Game, which analyzes a survey that quizzed 235 hedge fund managers on what the future holds for pensions investing in hedge funds, and other industry trends.
The majority of managers think pension funds will increase their hedge fund holdings over the next few years.
The State Street report points out that hedge fund managers are expecting increased capital flows over the next few years. The survey highlighted that nearly two-thirds (65%) of hedge fund managers anticipate ultra-high-net-worth investors will increase their hedge fund holdings, and almost the same number (63%) expect institutional investors will also up their alternative positions. Furthermore, over half (55%) of managers believe pension funds will increase their allocations to alternatives as they look for improved performance and greater diversification
Hedge fund managers also think the main reason for pension funds reducing exposure to Hedge Funds will be disappointment with returns. Nearly half (47%) noted this as their primary concern. The report noter: “This highlights the sharp focus on hedge funds’ ability to deliver value and align with institutional needs.”
Over half of the hedge fund professionals surveyed (53%) think the main reason why pension funds will invest more in hedge funds is to try and boost portfolio performance. Just over one-third (35%) think pension funds are mostly trying to improve portfolio diversification.
For “certain investors and certain portfolio usages”, ETFs might represent a cheaper route to access equity indices, suggest the authors. Pension funds are among the clients that iShares says are buying into the trend of moving away from futures as the traditional instrument of choice for institutional investors looking for beta and towards ETFs.
“Pension funds are very big passive investors and a number have concluded that ETFs are a better way to access beta than the increasingly expensive futures route,” says Ursula Marchioni, head of equity strategy and ETP research at iShares EMEA.
Pension funds have, of course, been known to use ETFs tactically, to ensure continued exposure while in the throes of transition management, for instance, but Marchioni predicts that strategic use will also increase.
“Approximately 65% of US pension funds already declare they use ETFs for strategic investment, buying and holding for two years or more,” she says, citing Greenwich Associates research (figure 1).
The council’s NCREIF Property Index showed that real estate owned by institutions had returns of 11.82% in 2014. That’s up slightly from 2013, when returns were 11.22%, but down from 2011 when returns were 14.26%.
The index tracks the performance of over 7,000 properties valued at over $400 billion that are owned by pension funds, asset managers and other institutional investors. The return is a combination of income and the appreciation of the properties. All the returns are unleveraged, assuming the properties are purchased on an all-cash basis.
For 2014, the 11.82% return consisted of a 5.36% income return and a 6.21% appreciation return, NCREIF said.
NCREIF reported that net income at the properties that it tracks increased 6.5% for the year. Occupancy ended the year at 9.9%, the highest level since the first quarter of 2008.
NCREIF also said that sales volume was increasing. In the fourth quarter of 2014, the institutions that the council tracks sold 282 properties and added 271 buildings. That’s the highest transaction volume since 2005.
The 2014 return of 11.82 percent is considered a “sustainable level”, Jeffrey Fisher, a NCREIF researcher, told the Wall Street Journal.
Here’s a graphic that shows what institutional investors believe to be the biggest potential risks to investment returns in 2015.
Seventeen percent of institutional investors are most worried about geopolitical risks. Meanwhile, 13 percent and 12 percent of investors, respectively, think slow growth in Europe and China pose the biggest risk to their 2015 returns.