Foreign outlays by U.S. institutional investors should rise $150 billion to some $517 billion in the three years through 1999, according to a new survey of 1,609 institutions by Greenwich Associates, Greenwich, Conn.
With an overall 1.4 percentage-point rise (to 12.8% of institutional assets), foreign investing will be the asset category attracting the largest allocation increase, according to Greenwich's data.
Within international investments, active equities should rise one percentage point during the three years to 8.2% of institutional assets, while passive equities will increase 0.3 percentage points to 2.8%, the survey predicted. International bonds will rise a fractional 0.1 percentage point, to 1.8%, Greenwich's data showed.
As of 1996, 76% of investors - including an average of 85% of endowments - said they already invested abroad. Another 20% said they planned to start investing internationally in the next 12 months. If borne out, that would bring to 96% the number of institutions with foreign holdings.
So after 1997's expected increase in first-time foreign investors, the number of new entrants "will precipitously drop as virtually all funds in our universe" are invested abroad, according to Rodger Smith, a partner with Greenwich Associates.
The expected $150 billion increase to international in the next three years is a "significant" amount, he said.
The growth "reflects three things: the fact that more funds plan to start investing abroad; those that already invest abroad will be expanding their allocation; and funds' perception that returns from international securities will exceed those of domestic stocks" (by an average 100 basis points premium in the next five years to 2001), said Mr. Smith.
There are several reasons allocations will expand. Not only will some funds be rebalancing their portfolios to take money from 1996's target overflow in domestic equities, but they also will try to move closer to their target for non-U.S. holdings. Moreover, some funds will raise their target for foreign investments.
And defined benefit plans won't be the only ones adding a foreign offering or expanding on it. Roger Bransford, managing director at Watson Wyatt Investment Consulting in Atlanta, said there "should be dramatic growth . . . in international investing by defined contribution plans because they are starting from such a low base." In fact, he has found that, in about the past two years, international equities has been "the most popular new option" to be added to defined contribution plans' offerings.
Despite its continued growth, international investing has not been a source of great satisfaction, especially in the past two years while the U.S. market roared.
Concerns are also on the rise with some investors about the degree of diversification foreign investing provides.
For these and other reasons, more funds have been scrutinizing their foreign investing strategies. As they do so, some sponsors are creating new international structures and benchmarks and overall evaluations of risk and return. In turn, these should continue to help sponsors hone their investment strategies.
At the same time, money managers are refining and expanding their international offerings. Not only are some rolling out more specific products, such as emerging markets or international small-stock portfolios, but they also are tailoring their portfolio strategies to fit sponsors' benchmarks.
Among targeted strategies, emerging markets investing - that captures markets not in the Morgan Stanley Capital International Europe Australasia Far East Index countries - is expected to remain popular this year.
Marianne Hay, a managing director of New York-based Morgan Stanley Asset Management, "wouldn't be surprised" if new allocations to emerging markets from investors worldwide this year exceeded $50 billion. That would compare with an estimated $35 billion in 1996, $18 billion in 1995, $40 billion in 1994 and $62 billion in 1993, she said.
In addition, some consultants see active/passive strategies remaining in demand. And according to Greenwich Associates, passive international allocations should rise to 2.8% of institutional assets, compared with 2.5% in 1996. (Active and passive international stocks and international bonds were the only three specific foreign investment categories for which Greenwich surveyed.)
Experts debate how popular international small-capitalization stocks will become. Charles King, director, international equity research at Evaluation Associates, Norwalk, Conn., sees growth in the area. "The two asset classes we're seeing the most (search) activity are emerging markets and international small cap," said Mr. King. This year, these two areas will have "significantly high percentage growth compared with EAFE mandates," he predicted. The $8 billion Los Angeles Fire & Police Pension System has not yet funded its designated 1% allocation to emerging markets, but Allan Moore, the fund's assistant general manager, expects that gap to be filled this year. The fund would still have another $70 million to invest abroad, which would bring the fund to its targeted 10% international allocation. Mr. Moore said he assumes this money will go to the fund's existing international managers.
This year some more - especially large - funds are expected to consider specific investment style managers. For example, early this year, the approximately $7.5 billion Louisiana Teachers' Retirement System, Baton Rouge, expects to begin seeking an international value stock manager for an allocation of still-undetermined amount. "Most of our (international) managers have a growth orientation. We're trying to include some specific exposure to value stocks," said Jennifer Netterville, chief investment officer.
Horizons also have been broadened for the fund's bond managers. In December, the board of Louisiana Teachers approved two related policies. One allows its domestic bond managers, if they individually seek board approval, to invest up to 20% of the fund's portfolios in hedged international bonds. That change affects the fund's U.S. bond portfolio, which makes up about 19% of its assets. The fund has another 19% of assets in global bonds.The other new policy allows bond managers to invest up to 10% in A-rated Yankee bonds without board approval, said Ms. Netterville.
However, the $4.3 billion Louisiana State Employees' Retirement System, Baton Rouge - as part of several asset changes made in 1996 - is trimming its global bond allocation to 10% of assets from 15%.
"We saw other asset classes (including domestic high-yield bonds and private equity) competing more favorably on a risk-return basis and projected correlation of that asset class with others," said Robert Borden, the fund's chief investment officer. The fund is in the process of reducing its allocation to both of its global bond managers, Putnam Investments and Morgan Grenfell Asset Management. But neither will be terminated, said Mr. Borden.