(updated with correction)
A growing number of institutional investors could make allocations to an expanding array of alternatives to market-cap-weighted indexes in the coming year, as broader efforts to boost returns and lower volatility extend to the passive portions of their barbelled portfolios.
While opinion remains divided on whether those alternate benchmarks should be considered passive, active or something in between, some industry veterans predict the small-cap and value equity premiums many of those benchmarks mine could help them gain currency among investors turning over every rock to avoid the next market bubble.
Consideration by investors of what to do with their passive exposure is “very actively going on,” noted Cynthia Steer, managing director and chief research strategist at Rogerscasey Inc., Darien, Conn.
Institutional investors and their consultants have done enough research about options “that exist outside of traditional cap-weighted indexes ... to begin moving some of their passive allocations over,” predicts Jason Hsu, chief investment officer of Newport Beach, Calif.-based Research Affiliates LLC, whose fundamental indexes have had the most success thus far in chipping away at the overwhelming dominance of market-capitalization-weighted indexes.
He said the $35 billion in predominantly institutional money now being run in RAFI indexes licensed by his firm is more than double the amount at the start of 2009.
“The consulting community is definitely looking at this “not just conceptually, but also in terms of implementation strategies, said Terry Dennison, a Los Angeles-based senior partner with Mercer LLC and the firm's U.S. director of consulting.
A number of sophisticated institutional investors are asking questions, and their ranks may well grow as consultants continue to study the matter, he said, adding that Mercer believes non-traditional benchmarks “have merit.”
At the heart of that interest is an ongoing debate about whether cap-weighted indexes accentuate market bubbles, and whether other indexes could offer a better combination of risks and rewards, noted Mr. Dennison.