Funds News

Pension funds to trim commodities exposure - for now

LONDON (Reuters) - Tumbling stock markets could push pension funds to scale back commodity exposure as well, in order to balance their portfolios, but in the longer term equity losses could see them return in larger numbers.

Tumbling stock markets could push pension funds to scale back commodity exposure as well, in order to balance their portfolios, but in the longer term equity losses could see them return in larger numbers. REUTERS/file photo

Fund managers say more money invested in commodities could promote stability and attract other investors who have shunned the sector, notorious for its wild price swings.

Most pension funds around the world are restricted by their mandates in the amounts they can invest in any one sector.

Many have invested in commodities to diversify their portfolios away from traditional assets such as stocks.

Allocations are sometimes allowed to vary within a defined range, but the surge in prices of commodities like oil and copper this year means even these limits have been breached.

“For pension funds already at their desired allocation to passive commodities, they would indeed have to sell commodities to maintain that exposure,” said Laura Ambroseno, an executive director at Morgan Stanley Investment Management.

In Britain, pension plans typically allocate about 70 percent of their funds to equities, about 20 percent to bonds and about 10 percent to cash and alternatives such as hedge funds, private equity, property and commodities.

Fund managers say many pension funds have a benchmark allocation of between 2 and 5 percent to commodities.

But those numbers have gone awry as prices have surged. Crude oil CLc1 hit a record high above $147 a barrel on July 11 and copper MCU3 touched an all-time peak of $8,940 a tonne on the London Metal Exchange on July 2.


Meanwhile, the subprime debacle, the credit crunch, economic slowdown and fears of systemic risk in the financial sector since August 2007 have hit stock markets worldwide.

The S&P 500 index .SPX of U.S. stocks has fallen by more than 20 percent since last October.

In the six months to June the S&P GSCI commodity index .SPGSCITR returned more 41 percent while the S&P 500 lost more than 12 percent.

Stock market losses are taking pension funds and their trustees back to the drawing board and fund managers expect to see much higher commodity allocations over the next few years as equities languish at lower levels.

“Performance elsewhere is soggy ... The discussion at pension funds will be about having a higher structural allocation to commodities,” said Ashok Shah, chief investment officer at London & Capital.

“Some funds may go to 10 percent, but that’s a seriously high number, I wouldn’t expect the whole universe of pension funds to average at that.”

Other reasons for pension funds’ interest in commodities include the fact that over a period of years, they have little or no relationship with returns from stock and bond markets.

Commodities are also used to protect portfolios against inflation, which is ramping higher across the world.

“Pension plans are allocating more to commodities ... They are increasing their limits at their board meetings,” said Angus Murray, founder of Castlestone Management.


Expectations are that over the next few years, the average benchmark allocation will be 5 percent, with a range between zero and 10 percent.

With larger allocations will come more rebalancing. Pension funds will sell when prices are high and buy when prices low.

“The end result is that these investors could end up as market stabilisers,” said Morgan Stanley’s Ambroseno.

“To the extent that flows can influence prices, this behaviour could dampen price movements and add to liquidity.”

This is contrary to the idea that investment fund money has created a bubble in commodities.

Research by Barclays Capital shows total commodity assets under management rose to $270 billion in the second quarter, a rise of $43 billion from the first quarter.

“Most of that was due to prices going up,” said Kevin Norrish, commodities analyst at Barclays.

Barclays estimates that new money inflows into commodities in the second quarter fell by 51 percent from the first quarter to $6.4 billion.

“We’re not saying money flowed out, we’re saying less money flowed in the second quarter.”