International - not domestic - equity that led indexed asset growth in the six months ended May 31, despite the continuous steep climb of the U.S. stock market.
International indexed equity assets rose sharply, gaining a market-adjusted 9.2% to $113.628 billion, according to the results of Pensions & Investments' semiannual survey of leading index fund managers.
The benchmark for international equity, the Morgan Stanley Capital International Europe Australasia Far East Index, returned 4.2% during the six-month period.
Overall institutional tax-exempt indexed assets managed by the leading index fund managers grew a market-adjusted 1.3% to a new high of $920.427 billion as of Dec. 1.
The biggest shift in assets during the past six months came from domestic equity into international equity, said Patricia C. Dunn, co-chairman, Barclays Global Investors, San Francisco. Still trying to reach allocation targets in an area where markets have lagged, sponsors are rebalancing their gains from the U.S. market into international equity.
Defined benefit, particularly public plans, have been reallocating their large-capitalization index funds. Sponsors haven't been moving away from small- or midcap index funds, Ms. Dunn said.
BGI reported $284.156 billion in index assets as of May 31, with $185.563 billion in domestic equity and $35.644 billion in international equity. It is the largest indexer - both in equity and overall assets - and manages about 30% of the assets reported in this survey.
While domestic equity index assets managed for tax-exempt institutions reached a new high of $632.236 billion during the six months ended May 31, the Standard & Poor's 500 Stock Index also grew 13.2%. And when adjusted for market growth, domestic equity index assets actually declined 1.2%. Domestic equity assets make up more than two-thirds of the assets in this survey, most of that in S&P 500 index funds.
"It's a mistake to infer that the decline in domestic equity indexing is an indication of dissatisfaction in indexing," said Ms. Dunn. "The growth in total indexing is an antidote to that."
While he said it's logical to believe rebalancing accounts for the drop in domestic index equity, Peter Leahy hasn't seen that trend at State Street Global Advisors, Boston. Mr. Leahy, who is managing director-global structured products at SSgA, said all areas of indexing have seen tremendous growth. So far in 1997, SSgA has seen $11 billion in new asset flow for indexed portfolios. New assets are going about 50% domestic and 50% international, he said.
SSgA is the largest international equity index manager in this survey, with $41.247 billion as of May 31. A rapidly growing part of that category is emerging market indexes. SSgA has $9.3 billion in emerging markets index funds, most for tax-exempt clients.
Although for this survey the international benchmark is the MSCI EAFE, for both State Street and Barclays, EAFE portfolios are a small portion of the international indexed assets. Most benchmarks are client specific, said Ms. Dunn. Sponsors use custom weightings for international markets, often using a regional approach to complement their active managers. For example, they might have a manager actively manage the Pacific Rim, and index Europe she said.
Domestic bonds up 6.5%
Domestic indexed bond assets also gained during the period, rising 6.6% to $173.193 billion. The Salomon Broad Bond Index was up only 1%.
The majority of the institutional tax-exempt assets reported in this survey are managed for defined benefit plans, but once a year index fund managers are asked how much they manage for defined contribution plans in indexed assets. With growth in defined benefit plans leveling off, defined contribution plans are an area of growth for index fund managers.
The market trend for defined contribution plans is domestic, not international, markets, said Ms. Dunn. Although plan participants understand the diversification rationale, it has not been a catalyst for action, she said.
Index fund managers seem to be reaping the rewards of both the growth of defined contribution plans and the booming stock market.
For the 12 months ended May 31, defined contribution indexed assets among the managers surveyed grew 64.6% (not adjusted for the markets) to $210.698 billion from $127.97 billion. Almost 80% of those assets are in domestic equity index funds. The S&P 500 index was up 29.4% for the year ended May 31.
Five of the largest managers on this list reported double- and triple-digit gains in indexed defined contribution assets for the year. The largest manager of indexed assets in this category is TIAA-CREF, New York, which reported $65.031 billion for May 31, up 27% from a year earlier. BGI reported a 42% increase in defined contribution indexed assets, to $49.786 billion, followed by The Vanguard Group Inc., Valley Forge, Pa., up 107% to $23.232 billion; Fidelity Investments, Boston, up 49% to $17.893 billion; and SSga, up 99% to $13.582 billion.
Still on a roller-coaster
The smallest asset category in this survey - at $1.37 billion - is international indexed bonds; the rise or fall of these assets has been dramatic in each survey.
That amount is a 27.5% market-adjusted drop from the $1.89 billion reported as of Dec. 1; for the six-months ended Dec. 1, international indexed bonds had risen a market-adjusted 39.5%. (The J.P. Morgan Non-U.S. Government Bond Index returned -5% for the six months ended May 31.)
One reason for the continued dramatic drop might be the performance of international bond indexes.
According to the most recent Pensions & Investments Performance Evaluation Report report, actively managed international bond funds continue to easily outperform international bond indexes.
Also, because this asset class is so limited, even small changes by sponsors in or out of this category will result in dramatic percentage changes.
Enhanced indexing rising
Included in the totals in this survey are enhanced indexed assets.
Enhanced indexed assets grew 22%, to $174.046 billion, in the six months. Of those assets, $101.736 billion was in equity and $72.31 billion was in bonds. (The security type was not asked for in previous surveys, so comparisons could not be made.)
Enhanced index bond assets make up about 42% of the domestic bond indexed assets in this survey. Strategies used by managers to enhance the returns on a sponsor's benchmark index include sector rotation, varying duration, yield curve positioning, using asset-backed securities, Treasury futures and term-structure modeling.
The goal of the enhanced index strategy is to add to the benchmark's return while keeping the level of risk closely tied to that of the benchmark.
The returns on the enhanced bond portfolios ranged for the six months ended May 31 range from 0.9% to 1.42%.
This survey contains some changes from the previous ones.
There are four new firms in this survey: Prime Capital Management Inc., Indianapolis; Westridge Capital Management Inc., North Hills, N.Y.; Camden Asset Management L.P., Los Angeles; and Norwest Investment Management Inc., Minneapolis. These four add $4.627 billion in indexed assets to this survey.
Equity index assets previously reported by Boatmen's Trust Co., St. Louis, have been transfered to TradeStreet Investment Associates Inc., the NationsBank's subsidiary, Charlotte, N.C., and are reported along with the assets TradeStreet managed previously. Boatmen's Capital, a new unit, retains the indexed bond assets, but because of the transition, an update on those assets was not available in time for this survey.