The high volatility experienced in the past year reminded investors of the importance of thoughtful diversification, being cognizant of investments fees, and that good governance should always be part of any investment decision. Our research shows that, while clients remain focused in these areas, most plan to give emphasis to asset allocation, equities and fixed income in 2024. Our findings indicate that the top four long-term priorities that clients are focused on include macro-economic conditions, fees, organizational design/governance and geopolitics. With these goals in mind, we urge investors to focus on diversifying assets, reevaluating active strategies and prioritizing governance.
01
With the market environment characterized by macroeconomic uncertainty, we believe diversification with downside mitigation and uncorrelated sources of income continues to be the best way to maximize the chance of investment success. We expect interest rate volatility to fall this year, which should be supportive of broader fixed-income returns given the starting level of all in yields. In such conditions, a stable return stream is increasingly valuable. As we observe an elevated level of starting yields, average corporate spreads, and modest default expectations, we believe that income will be the primary component of credit returns looking forward.
Higher carry, medium-duration strategies where sensitivity to interest rate movements is moderate and starting yields are elevated look especially attractive.
For those investors willing and able to go the extra mile, private debt continues to offer meaningful return pickup and strong value for risk taken. We are finding the most attractive opportunities today in private debt where managers are able to exploit the full breadth of markets and flex capital toward areas with the most attractive risk-adjusted returns; read more about it in our paper, "Private debt – opportunity in uncertainty".
02
In 6 reasons why now could be the era of the active investment manager, we outlined six reasons why we are excited about active management in 2024 and beyond. Higher inflation and slowing economies create stock market winners and losers. Skilled active managers may be able to find companies that can navigate a tricky environment. Dispersion in valuations underscores the ability for active managers to find cheap companies that have a chance of performing strongly over the long term while avoiding those that appear overvalued and expensive. Global equity markets experienced material concentration over the past decade. Today, MSCI World Index's largest stock holdings outstrip the largest country allocations outside of the U.S, including three of the world's largest 10 economies. Additionally, the top seven companies in the S&P 500 index significantly outperformed the overall market. In these conditions, the value of skilled active management is key to managing the risk of a reversal in those concentrated names.
Similarly, this macroeconomic environment can create opportunities in the hedge fund space. Hedge funds tend to generate attractive alpha-driven returns during periods of higher macro volatility and asset class return dispersion. To help investors navigate hedge funds, we considered the validity of a number of commonly held beliefs in Five myths of hedge fund investing. In this piece we showed that even though hedge funds can be opaque and expensive, they also have an opportunity to add alpha and reduce volatility of the overall portfolio if approached correctly. We believe the key is to focus on a total portfolio and select uncorrelated diversifying alpha sources through careful selection of highest conviction strategies and managers.
03
While traditional sectors such as office and retail continue to face re-pricing and liquidity headwinds (see our recent paper “Out of office: The status of the U.S. office property sector amid bank turmoil and remote work”), other sectors are thriving with continued opportunity for growth. In our view, the days of buying diversified ODCE-oriented funds are long gone, and investors are better off expanding the real asset opportunity set beyond real estate into other opportunities such as infrastructure and natural resources. Additionally, utilizing specialists and focusing on sectors with strong thematic tailwinds and inelastic demand profiles can potentially provide a more stable return profile. At WTW we continue to focus on trends in e-commerce, technology, changing demographics, remote working habits, aging and the climate transition. We have historically expressed these views through such strategies as last-mile logistics (last step of delivery process from distribution center to the end user), single-family homes, data infrastructure, life sciences and medical office, and senior housing.
We are also proponents of expanding the traditional focus on real estate to broader real assets, meaning infrastructure and natural resources as well. Within infrastructure, we emphasize a mix of traditional infrastructure social infrastructure and renewable energy.
Value-seeking themes
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More asset owners are incorporating an explicit climate and/or net zero strategy into their approach, whether out of belief or necessity. We are strong believers that climate integration is a financial proposition first and foremost, with our research supporting better risk-adjusted return potential.
We have supported numerous clients and investment managers across the globe in designing, implementing and enhancing their own sustainability policies — across stakeholder engagement, objective setting, journey planning, investment process review, asset allocation integration, risk analysis, monitoring, product review, product creation, stewardship and more.
If strengthening the long-term outcomes of your investment portfolio is a goal for your organization, we believe that integrating sustainability is a necessity that can no longer be ignored. WTW is an experienced partner that can help you translate your organizational objectives into a sensible and effective approach for your asset pools.
05
We have seen an increasing focus for asset owners on cost, resourcing and succession planning within their investment teams. At the same time, there is a rapidly evolving market landscape (as we noted above) as well as new regulations (e.g., SECURE 2.0) that call for increasing action and dynamism.
This, of course, leads to soul searching and has created continued evolution in the breadth of outsourcing flavors available to sponsors. While asset owners can certainly outsource most everything if they want to, they can also delegate a single asset class or specific operational functions. According to the 2023 ai-CIO Outsourced Chief Investment Officer Survey, over 60% of asset owners with $1 billion or less in assets delegate or plan to delegate at least a portion of their assets. Of those, about 55% use or plan to use full delegation, while the other 45% use or plan to use partial delegation.
Taking this a step further is the newly available Pooled Employer Plan (PEP) solution available to U.S. 401(k) sponsors following the passage of the first SECURE Act. PEPs can allow employers to outsource nearly everything about 401(k) plan management by participating in a third-party sponsored 401(k) plan management solution, similar to how employers approach many of their benefits. We believe PEPs will completely change the dynamics of the U.S. defined contribution landscape due to their significant potential to reduce plan costs, reduce administrative effort, reduce fiduciary risk and improve participant outcomes. We are happy to have introductory conversations with any 401(k) sponsor, or you can learn more about our LifeSight PEP offering.
As we navigate the intricate landscape of 2024, our research underscores the critical lessons learned from the market's high volatility in the previous year. Investors are poised to emphasize thoughtful diversification, fee awareness and the integration of robust governance principles into their investment decisions. The collective focus of our clients for 2024 revolves around macroeconomic conditions, fees, organizational design/governance and geopolitics.
In this dynamic environment, WTW stands as a seasoned partner, ready to assist organizations in translating their objectives into effective investment strategies. As we collectively navigate the challenges and opportunities of 2024, our commitment to empowering clients remains unwavering.
This document was prepared for general information purposes only and does not take into consideration individual circumstances. The information contained herein should not be considered a substitute for specific professional advice. In particular, its contents are not intended by Towers Watson Investment Services, Inc., and its parent, affiliates, and their respective directors, officers, and employees (WTW) to be construed as the provision of investment, legal, accounting, tax or other professional advice or recommendations of any kind, or to form the basis of any decision to do or to refrain from doing anything. The information included in this presentation is not based on the particular investment situation or requirements of any specific trust, plan, fiduciary, plan participant or beneficiary, endowment, or any other fund; any examples or illustrations used in this presentation are hypothetical. As such, this document should not be relied upon for investment or other financial decisions and no such decisions should be taken on the basis of its contents without seeking specific advice. WTW does not intend for anything in this document to constitute “investment advice” within the meaning of 29 C.F.R. § 2510.3-21 to any employee benefit plan subject to the Employee Retirement Income Security Act and/or section 4975 of the Internal Revenue Code.
This document is based on information available to WTW at the date of issue, and takes no account of subsequent developments. Past investment performance is not indicative of future performance. In producing this document WTW has relied upon the accuracy and completeness of certain data and information obtained from third parties. This document may not be reproduced or distributed to any other party, whether in whole or in part, without WTW's prior written consent, except to the extent required by law.
Views expressed by other WTW consultants or affiliates may differ from the information presented herein. Actual recommendations, investments or investment decisions made by WTW, whether for its own account or on behalf of others, may differ from those expressed herein.
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