Isle of Wight disinvests equities to pursue DGF approach

Decreasing equity exposure has been popular among schemes looking to mitigate equity market volatility. For many schemes, replacing these allocations with a DGF has been favoured, as equity-type growth can be achieved but with less risk.

The £388m scheme said following a review of its asset management strategy, it decided it was “overweight in equities” and other options should be explored.

“[We] also wanted to consider alternative investment opportunities that were not directly linked to movement in stock markets,” said a spokesperson for the fund.

Isle of Wight currently has 70 per cent invested in equities, with 37.5 per cent invested in UK and 32.5 per cent in global mandates.

An amendment to its current allocation would see its total allocation in the asset fall to 55 per cent, with its UK allocation being reduced by 15 percentage points to 22.5 per cent and put in to a DGF.

As part of Isle of Wight’s new strategy it has appointed Baillie Gifford to handle a DGF mandate. In its annual report for 2012/2013, the fund said it expects to complete the transition of the new asset allocation by September.

The report also revealed that at the last valuation of the scheme, in March 2010, it was 75 per cent funded, with a £97m deficit, compared with an 80 per cent funding level and £64.9m deficit in 2007. 

Gavin Orpin, head of trustee investment at consultancy LCP, said it has become increasingly common for funds to replace some of their allocation to equities with DGFs.

“We are also seeing clients make changes from within their alternatives allocation – not just from equities, but potentially from hedge funds and other alternatives into these multi-asset funds,” he said.

Two sides of DGFs

The benefit for schemes that choose to go down this route is there would be more “downside protection” if equities began to fall, added Orpin.

It is also quite common for pension schemes to award mandates to more than one DGF as there is a significant amount of active management involved.

"You might have schemes with three or four different allocations to spread the active management risk," said Orpin.

Some in the industry have said that as DGFs are relatively new it is important to be realistic about returns.  

Nick Secrett, an investment director at PwC, said there was definitely a place for them, but stressed the importance of being aware about performance.

"There is a danger that they have potentially been overhyped," said Secrett. 

"There have been a number of cases where you hear people say, ‘Oh it will be the same as equity returns, just with a lower volatility,’ and I think the reality is that you are unlikely to get that."

DGFs have proved popular with smaller schemes, who may have previously viewed accessing a variety of assets as an activity for larger funds.

Having a third-party manager monitor the allocation and keep up returns was a large part of the appeal, according to Allan Lindsay, head of investment consulting (North) at JLT Investment Consulting.

"It is the blend of those approaches [that] has really been quite popular. I think £10m to £50m schemes were probably the ones that really cottoned on to this initially," he said. 

Some of the big funds were also now exploring the area, including a number of local authorities, added Lindsay. 

The spokesperson for Isle of Wight said it would continue to regularly review its strategy, adding  it would consider investing in infrastructure and alternatives as part of this process.