JPMorgan Survey Explores Next Generation of Alternative Investing

The results of a recent survey by JPMorgan Asset Management, which examined the investment strategies and practices of some of the nation's largest institutional investors, confirms that alternative investment strategies -- now established components of institutional portfolios -- are no longer "alternative" at all. In fact, there has been no overall pullback from them even during recent challenging market conditions.

The JPMorgan Asset Management Next Generation Alternative Investing Survey examined the investment practices of 191 of the largest U.S. institutional investors across corporate plans, public funds and endowments and foundations representing $1.26 trillion in assets. The survey was conducted by Greenwich Associates in the first quarter of 2008.

Key Findings: Alternative or essential?

Alternatives have become an essential part of portfolio strategies for institutional investors employing them. Growth expectations remain strong -- despite current market disruptions, dislocations, and sub-prime contagion.

• Average allocations to alternatives exceed 18% and are expected to exceed 22% by 2010 -- an increase of over 20%.
• A 20% to 30% allocation to alternatives is seen as "about right" overall, although among just E&Fs, more than half think this should be higher.
• A pervasive need to enhance and diversify returns drives growth, with a shift in allocations away from traditional assets toward alternatives.

Sizing up strategies

Growth in average allocations is expected across all major alternative asset classes, with absolute return/hedge funds and private equity growing the fastest.

• Hedge funds/absolute return: We estimate that these strategies will account for approximately 40% of net inflows into alternatives through 2010.
• Private equity: Growth will be strong, led by 62% of current investors planning to increase allocations, the highest percentage across all alternative asset classes.
• Real assets/real estate: This mainstream portfolio component will experience more modest growth.

Diversification within alternatives

Investors are emphasizing diversification within their alternative portfolios -- among various established and new types of alternative strategies, as well as across geographic regions.

• Real assets/infrastructure: We expect to see its relatively small investor base more than double over the next three years.
• Green/sustainable: Even with a small current investor base, this emerging asset class showed surprising strength and is of particular interest to public funds.
• Geographic diversification: Among all alternative asset classes, real estate features the most pronounced preference for non-U.S. assets.

Investor dynamics

Although all institutional investors share a common need for return enhancement and diversification, the growth dynamics of alternatives play out differently in each investor segment, due to unique issues and concerns.

• Corporate plans: Given recent and anticipated regulatory and accounting changes, corporate plans are focused on controlling funded status volatility -- increasing fixed income allocations and significantly extending durations. These plans have the lowest average total alternative allocations (13%), anticipated to grow to 15% by 2010.
• Public funds: With a focus on consistently earning required returns to meet their long-term benefit obligations, and not subject to the changing regulatory and accounting environment of corporate plans, public funds are currently more active in alternatives than their corporate counterparts. In fact, their participation rate with respect to absolute return/hedge funds has increased approximately four-fold (to 43% of plans invested) since our survey in 2004. These investors also show strong growth in private equity and green/sustainable investing.
• Endowments and foundations: This group of investors is clearly leading the way in alternative investing with allocations accounting for over a third of portfolio assets by 2010.

Alternatives meeting expectations but not without concerns:

• For the vast majority of investors surveyed, alternative investments are currently meeting performance expectations.
• Investors' greatest concerns are falling returns/performance for alternatives, liquidity concerns, and overcrowding of the alternatives marketplace.
• Fees are a concern to investors but over a third of investors believe that fees are fair as long as return expectations are met.

Commenting on the findings, John Hunt, CEO of Institutional Americas at JPMorgan Asset Management, said: "What our survey indicates is that alternatives, used in the right way, are enabling investors to better tailor investment strategies to address their myriad of financial and investment concerns, be it controlling volatility, boosting returns, or hedging inflation."

"While alternative assets have indeed become an essential part of the portfolio, continuous innovation will be required to meet the needs and appetites of institutional investors who will demand an increase in the availability and diversification of alternative offerings. As a well established leader across alternative asset classes, we are keenly aware of the investment objectives and challenges faced by institutions and will continue to be at the cutting edge of addressing these needs for our institutional clients."

Source: JPMorgan