2019 Investor Outlook: Smooth Sailing or Bumpy Ride?

Institutional investors predict that recent volatility will continue into next year and the long-running U.S. bull market will finally end, if it hasn’t already, but will that affect their investment strategy?

In Natixis Investment Managers’ annual study, “Keep Calm and Invest On,” institutional investors see risks ahead with rising rates and volatility spikes, but while they are making some shifts, they are largely holding steady – for now.

According to the findings, which track the planned actions of 500 institutional investors who collectively manage more than $16 trillion in assets, nearly two-thirds (65%) of institutional investors do, in fact, predict that the decade-long U.S. bull market will end in the next 12 months.

Volatility Ready

Institutional investors are concerned that volatility could return in earnest. Volatility topped their list of concerns for 2017, and 78% predicted the stock market would be more volatile this year. Looking ahead to 2019, a majority once again expects greater volatility in the stock (84%) and bond markets (70%).

But even as they anticipate more turbulent times, 6 in 10 investors say they feel prepared to handle the risks in 2019 and they aren’t ready to pull back on their average long-term return assumptions of 6.7%. What’s more, even with potentially stronger headwinds, 77% of respondents believe those assumptions are realistic. In addition, more than half (56%) expect to keep their assumed rate of return unchanged in 2019, while 35% plan to lower it and 9% expect to raise it.

Natixis notes that this is driving how they are looking at portfolio allocations and sector calls for 2019. “Our research shows institutional investors are already positioned for the potential market turbulence on the horizon,” notes David Giunta, Natixis Investment Managers’ CEO for the U.S. and Canada. “For these sophisticated investors, actively managed strategies and alternative investments are their tools of choice to help optimize their portfolios for the challenges ahead.”

Given the trends of the past several years, institutional investors indicate that they anticipated today’s market challenges. As a result, few respondents plan drastic changes to return assumptions or portfolio strategy and say they will remain focused on active management to guide them through more volatile markets in the coming year.

Moreover, 79% of the institutional investors polled agree the 2019 market environment is likely to be favorable for active portfolio management. Consequently, investors reportedly continue to increase their allocations to active strategies while their use of passive strategies continues to decline. Natixis notes that current allocations are split 70% active and 30% passive, up from 64% active with 36% passive in 2015.

Portfolio Allocations and Risks

Despite the anticipated end of the bull market, institutional investors predict minimal changes to their 2019 portfolio allocations. Investors expect to reduce their portfolios’ equity allocations from 38% to 36%, while increasing fixed income from 37% to 38%, and cash from 5% to 6%. They also plan to maintain their alternative allocations at 18%.

Among the biggest shifts within classes, 41% of institutional investors expect to decrease exposure to U.S. equities, while 36% expect to increase exposure to infrastructure. Institutions further report that they have the greatest confidence in the information technology (40%), health care (39%), energy (36%) and financial (36%) sectors to produce above-market returns in 2019.

Meanwhile, these investors most frequently point to interest rates (56%) as the biggest portfolio risk, while volatility spikes (52%), not surprisingly, come in a close second. Regulatory constraints (32%) and liquidity (32%) are also referenced as part of the risk discussion.

Institutional investors also see the potential for asset bubbles across multiple asset classes: cryptocurrency (64%), technology (45%), stock market (41%), bonds (33%), real estate (32%) and China (24%). In fact, 6 in 10 (61%) institutional investors list asset bubbles as being among the biggest threats to investment performance next year.

Private Assets

Against the backdrop of uncertain returns and rising rates, institutional investors further indicate they are turning to private markets. Slightly more than half (51%) of respondents say that private equity or private debt are an important part of their organization’s portfolio. Seventy-one percent of respondents say such assets provide higher returns and 60% say they provide greater diversification. In addition, the performance potential of private assets makes them worth the higher fees they often command, say 68% of investors.

The survey of 500 institutional investors was conducted by CoreData during October and November 2018 among managers of corporate and public pension funds, foundations, endowments, insurance funds and sovereign wealth funds in North America, Latin America, the United Kingdom, Continental Europe, Asia and the Middle East.

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