Public investors, including sovereign wealth funds and public pension funds, have a total of $36 trillion in assets under management – equivalent to 45% of global GDP – of which pension funds represent $14.8 trillion. The way those funds are invested is changing dramatically.
“Once described as alternative assets, real assets and infrastructure are becoming a core part of many public pension fund portfolios.”
Sovereign wealth funds have led the way in increasing allocations to real assets but public pension funds are now following suit.
Public pension funds and sovereign funds have more than doubled their real estate investments since 2009, according to a survey of sovereign funds and public pension funds (with almost $4.6 trillion in assets under management) by BNY Mellon and the Official Monetary and Financial Institutions Forum (OMFIF). The growth of infrastructure investment is even greater. This trend looks set to continue, with nearly 70% of survey respondents expecting to increase infrastructure investment – and 45% expecting to increase real estate investment – over the next 12-24 months.
Strong Growth Drivers
There is plenty of scope for further growth. Despite the recent shift in attitudes, public pension funds remain heavily skewed towards conventional assets, with a 38% allocation to fixed income and 35% to equities; just 9% is allocated to real estate and 2% to infrastructure. As the era of accommodative monetary policy comes to an end, the performance of fixed income and equities may decline. Consequently, the outperformance of real assets – both in terms of volatility and returns – could become more significant.
Moreover, there are powerful demographic and macroeconomic forces behind the outperformance of global infrastructure and real estate markets. Strong middle-class growth in Asia Pacific and the Middle East, as well as a rapid expansion of the labour force in Africa and Latin America, is raising demand for both commercial and residential property. Emerging market economic growth also requires significant investment in infrastructure, which governments are often unable to meet due to fragile public finances. Given the long-term nature of such assets, they are often ideally suited to public pension funds.
A Learning Curve
Typically investors in real assets change how they interact with real estate and infrastructure assets as they gain experience. Investment might begin by investing in funds, which allows pensions schemes to learn more about the asset class. One disadvantage of this approach is that given the complexity of real assets, external management costs are relatively high compared to fixed income or equities.
Once they understand more about the asset class, a public pension scheme could choose to become a limited partner (in some countries this may require legislation or regulatory changes). Co-investment offers a number of advantages over investment in funds, including greater visibility of risks and lower costs. In addition, investors are not subject to the fixed terms traditionally associated with funds, which by taking cash out of the market, can reduce returns. (However, the growth of evergreen funds, which recycle capital, could make this less of a consideration in the future.)
Becoming a limited partner or co-investing is a significant leap in terms of commitment and entails greater engagement with the assets. Pension schemes may have to reconfigure their decision-making processes and invest in resources so that they can, for instance, rapidly assess an investment opportunity presented by a general partner. Other important considerations for public pension funds building capacity in real assets is the scarcity of suitable projects, especially in infrastructure, and the need to build a portfolio of assets in order to achieve scale and diversification.
Perhaps the defining characteristic of real assets is their long-term nature. They offer the prospect of strong, sustainable returns over many years.
“In order to achieve returns from real assets, public pension funds must collaborate with other stakeholders and manage the complex regulatory responsibilities they entail.”
Moreover, the long-term nature of real assets means they are subject to technological, regulatory and macro political forces. Over the lifetime of a potential investment, innovation or changes in government policy might make some assets redundant. At the same time, new infrastructure sectors could emerge – investors need to maintain an open mind about investment opportunities.
BNY Mellon assumes no liability for the content, including statistics, herein. All content, including statistics, was derived from discussions and presentations that took place at the BNY Mellon Pension Summit in London on 14 November 2018.
BNY Mellon is the corporate brand of The Bank of New York Mellon Corporation and may be used as a generic term to reference the corporation as a whole and/or its various subsidiaries generally. This material and any products and services may be issued or provided under various brand names in various countries by duly authorised and regulated subsidiaries, affiliates, and joint ventures of BNY Mellon, which may include any of the following. The Bank of New York Mellon, at 240 Greenwich Street, NY, NY 10286 USA, a banking corporation organised pursuant to the laws of the State of New York, and operating in England through its branch at One Canada Square, London E14 5AL, registered in England and Wales with numbers FC005522 and BR000818. The Bank of New York Mellon is supervised and regulated by the New York State Department of Financial Services and the US Federal Reserve and authorised by the Prudential Regulation Authority. The Bank of New York Mellon, London Branch is subject to regulation by the Financial Conduct Authority and limited regulation by the Prudential Regulation Authority. Details about the extent of our regulation by the Prudential Regulation Authority are available from us on request. The Bank of New York Mellon SA/NV, a Belgian public limited liability company, with company number 0806.743.159, whose registered office is at 46 Rue Montoyerstraat, B-1000 Brussels, authorised and regulated as a significant credit institution by the European Central Bank (ECB), under the prudential supervision of the National Bank of Belgium (NBB) and under the supervision of the Belgian Financial Services and Markets Authority (FSMA) for conduct of business rules, a subsidiary of The Bank of New York Mellon, and operating in England through its branch at 160 Queen Victoria Street, London EC4V 4LA, registered in England and Wales with numbers FC029379 and BR014361. The Bank of New York Mellon SA/NV (London Branch) is authorised by the ECB and subject to limited regulation by the Financial Conduct Authority and the Prudential Regulation Authority. Details about the extent of our regulation by the Financial Conduct Authority and Prudential Regulation Authority are available from us on request. The Bank of New York Mellon SA/NV, operating in Ireland through its branch at Riverside 2, Sir John Rogerson’s Quay, Grand Canal Dock, Dublin 2, D02 KV60, Ireland, trading as The Bank of New York Mellon SA/NV, Dublin Branch, which is authorized by the ECB, regulated by the Central Bank of Ireland for conduct of business rules and registered with the Companies Registration Office in Ireland No. 907126 & with VAT No. IE 9578054E. If this material is distributed in or from, the Dubai International Financial Centre (DIFC), it is communicated by The Bank of New York Mellon, DIFC Branch, (the “DIFC Branch”) on behalf of BNY Mellon (as defined above). This material is intended for Professional Clients and Market Counterparties only and no other person should act upon it. The DIFC Branch is regulated by the DFSA and is located at DIFC, The Exchange Building 5 North, Level 6, Room 601, P.O. Box 506723, Dubai, UAE. BNY Mellon also includes The Bank of New York Mellon which has various subsidiaries, affiliates, branches and representative offices in the Asia-Pacific Region which are subject to regulation by the relevant local regulator in that jurisdiction. Details about the extent of our regulation and applicable regulators in the Asia-Pacific Region are available from us on request. Not all products and services are offered in all countries.
The material contained in this document, which may be considered advertising, is for general information and reference purposes only and is not intended to provide legal, tax, accounting, investment, financial or other professional advice on any matter, and is not to be used as such. The contents may not be comprehensive or up-to-date, and BNY Mellon will not be responsible for updating any information contained within this document. If distributed in the UK or EMEA, this document is a financial promotion. This document and the statements contained herein, are not an offer or solicitation to buy or sell any products (including financial products) or services or to participate in any particular strategy mentioned and should not be construed as such. This document is not intended for distribution to, or use by, any person or entity in any jurisdiction or country in which such distribution or use would be contrary to local law or regulation. Similarly, this document may not be distributed or used for the purpose of offers or solicitations in any jurisdiction or in any circumstances in which such offers or solicitations are unlawful or not authorised, or where there would be, by virtue of such distribution, new or additional registration requirements. Persons into whose possession this document comes are required to inform themselves about and to observe any restrictions that apply to the distribution of this document in their jurisdiction. The information contained in this document is for use by wholesale clients only and is not to be relied upon by retail clients. Trademarks, service marks and logos belong to their respective owners.
BNY Mellon assumes no liability whatsoever for any action taken in reliance on the information contained in this material, or for direct or indirect damages or losses resulting from use of this material, its content, or services. Any unauthorised use of material contained herein is at the user’s own risk. Reproduction, distribution, republication and retransmission of material contained herein is prohibited without the prior consent of BNY Mellon.
© 2019 The Bank of New York Mellon Corporation. All rights reserved.
