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  2. INVESTING & PORTFOLIO STRATEGIES
November 30, 2015 12:00 AM

Low-volatility strategies soar as investors reduce risks

James Comtois
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    Sara Shores

    A desire to reduce risk exposure yet maintain an allocation to equities is driving institutional investor appetite for low-volatility equities strategies way, way up.

    “2015 has been an outsized year. This really was a banner year,” said Sara Shores, managing director and global head of smart beta at BlackRock Inc. in San Francisco.

    Take BlackRock's iShares' minimum volatility suite, for example. This family of exchange-traded funds had total AUM of $15 billion as of Nov. 24; its year-to-date inflows totaled $7 billion, iShares' said.

    The universe of institutional low-volatility assets was $110.36 billion as of Sept. 30, up 155% from three years earlier, data from Marietta, Ga.-based eVestment LLC show.

    Investor demand for low-volatility offerings is driven by market uncertainty, a shift toward an outcome-oriented approach and a desire to rethink risk tolerance and risk exposure. Additionally, as more baby boomers move into retirement, defined benefit plans are downshifting, moving into defensive postures to protect assets, all factors that play to low-volatility strategies.

    Markets whipsawed investors this year. The turbulence in China rattled markets and sent the CBOE Volatility index spiking in August. Greece's debt crisis and its citizens' vote in July to reject bailout terms caused indexes to tumble globally. And uncertainty about the Federal Reserve's plans on interest rates certainly didn't set investors at ease.

    Making moves

    Among asset owners considering or making recent moves into low-volatility allocations:

    • The $14.4 billion Hawaii Employees' Retirement System, Honolulu, in September announced plans to build up its stabilized growth program with new strategies such as low volatility.

    • The $3.3 billion Detroit Police & Fire Retirement System could hire two managers to run $150 million in global low-volatility equities by the end of November, said Ryan Bigelow, the pension funds' investment officer.

    • In June, the $3.4 billion Dallas Employees' Retirement Fund hired BlackRock Inc. and Acadian Asset Management LLC to each manage roughly $170 million in global low-volatility equity strategies.

    • In April, the $188 billion California State Teachers' Retirement System, West Sacramento, hired Analytic Investors LLC to manage about $200 million for a U.S. low-volatility strategy.

    • In March, the $2.5 billion Santa Barbara County (Calif.) Employees' Retirement System began a search for an active U.S. low-volatility equity manager to run about $125 million.

    Jeffrey Levi, a partner at Darien, Conn.-based money management consultant Casey, Quirk & Associates LLC, said executives at many defined benefit plans are looking at where they're most exposed to risk, and it's in their equities portfolios, so they want to move out of risk but still have equity exposure.

    “I think we're still very much in the growth phase, because a lot of DB plans have a lot of risk assets on their books,” said Mr. Levi. “As we get closer to payouts, you'll see plans want to move out of equities entirely. At some point, plans want to move to assets that provide very predictable cash flows. I still think we're years away from that, though.”

    Mr. Levi added that in theory, low-volatility strategies create a more consistent return and a better risk profile.

    Managers such as BlackRock, Acadian and INTECH Investment Management LLC have been increasing their low-volatility offerings in the past few years as asset owners have been putting substantially more of their money into this space.

    Protecting against downside

    “Low-volatility has full exposure to equity markets and the ability to avoid those painful downside outcomes,” said Ted W. Noon, senior vice president and director of North American business development at Acadian, Boston.

    Mr. Noon said he sees two primary factors driving the growth in investor appetite for low-volatility offerings.

    The first comes from a desire among asset owners to reduce risk within their portfolios.

    “2008 was a wake-up call in terms of plans needing to reduce their risk exposures,” he said, adding that since then, plan sponsors have been looking for ways to produce the returns they need to meet their commitments and make sure they're “not exposed to those cataclysmic events like 2008.”

    The second factor is that plan executives are now recognizing these strategies are not a fad.

    “These strategies have delivered what they were designed to offer — equity returns at lower volatility than capitalization-weighted equity markets,” said Mr. Noon.

    Acadian has close to $13 billion in low-volatility strategies.

    Not surprisingly, the managers that provide low-volatility strategies to investors all have different tactics to capture some of that institutional capital.

    Ms. Shores said BlackRock has “dedicated a tremendous amount of resources” to accommodating client demand for these strategies. In July, the firm hired Andrew Ang, the former Ann F. Kaplan professor of business at the Columbia University Business School, to oversee BlackRock's factor-based investing strategies.

    “A lot of the work we do is to help large institutional investors figure out the minimum amount of volatility they need to fulfill particular outcomes. We help them figure this out by using different tools in our smart beta tool kit,” Ms. Shores said.

    BlackRock's first low-volatility portfolio was launched in 2010. In aggregate, the firm manages more than $26 billion in these strategies now.

    Acadian introduced these strategies to the market in 2006, prior to the crisis.

    “We got behind these strategies before they were popular,” said Mr. Noon. “It's really benefited us.”

    Acadian has a five-person investment team focused exclusively on these strategies out of a total portfolio investment team of about 80 investment professionals.

    Client demand

    INTECH, West Palm Beach, Fla., started launching low-volatility strategies in 2012 to accommodate client demand. INTECH now has about $4.2 billion in low-volatility assets.

    “Investors have come to us from overseas and asked us to create solutions in their currencies. That's one area we're seeing growth,” said Richard Yasenchak, client portfolio manager at INTECH.

    Mr. Yasenchak noted that he has seen more RFPs recently from investors seeking low-volatility managers.

    Another area driving growth for INTECH is from various index providers establishing low-volatility indexes, such as the FTSE Low-Volatility Index Series.

    “Clients have been asking us to tailor products to these and (other) indices,” Mr. Yasenchak added.

    But Mr. Yasenchak noted that low-volatility strategies don't do as well in bull markets: “There's potentially less upside captured in a bull market.”

    He also noted there are limited track records associated with this relatively new investment offering and a limited number of managers that provide them as other challenges.

    Looking toward the year ahead, Ms. Shores said that, although the industry will continue to see broader adoption of low-volatility strategies in the future, she expects to see more “measured growth” in the future.

    Mr. Noon, meanwhile, said he thinks “there's substantial growth to be had,” adding: “We're in the early stages.”

    Over the last year, Acadian has seen 30% growth in its low-volatility strategies. Over the least three years, its low-volatility strategies have doubled in AUM.

    Mr. Yasenchak also doesn't see this growth slowing down.

    “Given the increased volatility we're experiencing in the market, those investors that have been educated (on low volatility) are now acting. It's a long-term strategic allocation within a U.S. equity mix,” he said.

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