The demand for smart beta among pension funds and other institutional investors is skyrocketing, with no end in sight, according to Towers Watson.
Investors traditionally have pursued alpha, which is the measurement of a portfolio manager's performance. But more nowadays are pursuing smart beta, too, which aims for better returns at indexlike prices using measures other than the standard market-cap weighting, such as dividends or volatility. And now it would seem that alpha is increasingly taking a back seat.
Towers Watson's institutional clients globally allocated over $8 billion to smart beta strategies in 2014, the firm said Monday. For the 550 portfolios in question, the firm said, that brought total smart beta strategy exposure up to around $40 billion, across a range of asset classes.
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Considering that at the end of 2013 smart beta accounted for $32 billion, and at the end of 2012 clients only had $20 billion devoted to smart beta, that means clients doubled their pursuit of such strategies in just two years.
"Smart beta growth has been phenomenal in the past five years, and we expect to see continuing demand, especially for smart implementation and innovation, which define the top managers in this space," Brad Morrow, North America head of manager research at Towers Watson, said in a statement.
The same forecast has been made by a number of others, including Morningstar and Cogent Research, a division of Market Strategies International.
Last year, Towers Watson's clients, including include pension funds, endowments and foundations, sovereign wealth funds and insurance companies, engaged in diversification — or alternative investment strategy — choices to the tune of some $10 billion, up from $7 billion in 2010.
Among 2014's most popular such investments were real estate (more than $3 billion, compared to $1.6 billion in 2010), with more than a tenth of that amount in smart beta, and infrastructure ($2.3 billion, compared to $59 million in 2010), of which a third was in smart beta. During the same time, liquid alt strategies accounted for $1.7 billion, of which more than a third is in smart beta.
Clients put $34.8 billion (compared to $19.3 billion in 2010) into credit, the majority of which went into global bond mandates, U.S. bond mandates and Australian bonds. In addition, clients chose to invest in developed-market alternative credit mandates and direct lending and structured credit opportunities. During 2014, $1.5 billion was invested in smart beta in the bond area.
In equities, global mandates led the field at approximately $7 billion; after that came U.S. equities ($3 billion) and U.S. small-/mid-cap equity mandates ($2 billion). Emerging-market equities came in at $1.8 billion and $1 billion was invested in global ex-U.S. equities. Long/short equity amounted to $500 million.
"Perhaps unsurprisingly, smart beta innovation in the bond space has been slower than in equities, partly due to the nature of the indices and the level of complexity that comes with the territory, but this is changing, and we think there is more to do in bonds. In terms of smart beta, bonds are where equities were five years ago," Morrow said.
Private equity attracted fewer assets than in previous years ($415 million, compared to $714 million in 2010). In total, equity mandate selections in 2014 accounted for $20.3 billion in assets (compared to $20.6 billion in 2010), with smart beta accounting for $1 billion, compared to $45 million in 2010.
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