“The death of traditional portfolio construction” is the working title for a position paper being released within a week by Future Fund, Craig Thorburn, director at the CIO office at Australia’s sovereign wealth fund, told the audience at AsianInvestor’s 12th Southeast Asia Institutional Investment Forum in Singapore on November 22.
This edgy and enticing title highlights that – depending on type, mission and mandate – asset owners may have to rethink how they go about their portfolio construction and asset allocation in a world of sustained inflation, deglobalisation and increased geopolitical risk.
“These are issues that we haven’t had to think about in the last 30-40 years," Thorburn said from the stage. "And unfortunately, even playbooks from the 1970s don’t quite apply – not in our opinion – for what is going to happen in the next 5 to 10 years, and hopefully not too much longer than that.”
The position paper will be its second and a follow-up to the initial paper released in September 2021, titled “A new investment order”.
As of end September 2022, Future Fund’s portfolio was valued at A$193 billion ($128 billion). Including the management of five other smaller government funds, total funds under management stood at A$241 billion.
INFLATION AND DEGLOBALISATION
One of the major concerns informing the new position paper is rising inflation over the past 12 months. Thorburn explained that Future Fund has “put our money where our mouth is” in terms of trying to improve resilience.
“We have actually added gold to our portfolio and allocated more money to commodities in general," he said.
"We now have a different approach to commodities when it comes to our world strategy. We have always been fans of real assets, infrastructure and property. Our interest in those assets has only increased, especially assets that have aligned or contracted with inflation ... and Australian inflation in particular,” Thorburn said.
He also mentioned private credit as an appealing investment target in the current market.
“We have had an incredible tailwind of globalisation, particularly the supply of capital and people. We are not predicting it, but we are concerned about those globalisation tailwinds now turning into headwinds as we might enter an era of deglobalisation,” Thorburn said.
The supply of capital and labour, issues around discount rates and whether they should be going up or down are causing concerns about deglobalisation at Future Fund
“We need to at least rethink our portfolio construction. We are thinking about alpha more than beta. In other words: we are not necessarily there just to get market returns because the era of medium to stable growth with low inflation and volatility may well be a thing that hopefully will come back in our future, but it may not be with us in the next 5-10 years,” Thorburn said.
Instead, investment professionals at the sovereign wealth fund are thinking differently about how they can extract market returns, in particular alpha.
“It means that we look even more at asset types like private equity and alternatives, and by that I mean hedge funds. We already have a fairly high allocation to hedge funds as a defensive tool, but also a tool that can exploit opportunities and idiosyncratic risks, which we believe is the point of the alpha: the manager’s skills,” Thorburn said.
Thorburn listed a number of questions that Future Fund will keep asking internally, and that might be of consideration for all asset owners.
“Are bonds really that resilient? They can be in certain circumstances, but are they going to be that defensive a tool in all circumstances for an asset owner? Equally, are equities always going to be that “set-and-forget” where you are going to earn that market return that is going to hit your mandate?” Thorburn asked.
He elaborated that Future Fund has “inflation plus mandate” within equities, which he admitted is a relatively aggressive mandate compared to other asset owners.
“These are themes that when you construct a portfolio, particularly around resilience and a theme like deglobalisation, it is on us to at least question the correlations that we are relying upon when we build these portfolios,” Thorburn said.