The shift to passive equity investment, particularly among public defined benefit plans, led to a spike in the use of transition management services in the first quarter, compared with both the fourth quarter and all of last year, with as much as 60% of activity attributable to the strategy shift, industry sources said.
Many clients held back on transitions in 2016 because of the U.S. election and uncertainty over potential central bank increases in interest rates, but sources said those clients began to make their moves toward passive management once 2017 began.
“We've definitely seen an uptick in transition management in the first quarter,” said Steven Glass, president and CEO of Zeno Consulting Group LLC, a Bethesda, Md., consultant to pension funds on trading issues. “A decent amount of transitions that we've been aware of have that passive aspect to them.”
“Active to passive has been the driver” for State Street Corp.'s transition management book of business, said Nicholas Bonn, Boston-based executive vice president of State Street Global Markets and global head of State Street's portfolio solutions business. “It's not a blip. The last couple years, there's been a high correlation of returns among assets. There's been little difference in stocks. In terms of returns, passive has beaten active handily, and that's been a big driver in active to passive.”
State Street has seen a consistent 40% of transition activity related to a shift to passive from active in the past year, while at Northern Trust Corp., transitions to passive management reached 61% of all activity in the first quarter compared to 25% in the fourth quarter and 30% in all of 2016.
“It'll be interesting to see the second-quarter numbers if that percentage remains consistent,” said Ben Jenkins, global head of transition management, Northern Trust, Chicago. “This is a big change for us, a big change in first-quarter transition activity. The first quarter usually tends to be larger than other quarters, but this shift has been larger. So it's interesting to see active to passive as a sign of what the (pension fund) industry is doing.”
Mr. Jenkins said a “large portion” of the first-quarter transitions to passive management came from public plans.
The transitions to passive management generally focused on large-cap equities and developed markets strategies, said Zlatko Martinic, managing director, head of transition management, Penserra Securities LLC, Orinda, Calif.
“That's not necessarily in the emerging markets space, where there are transferability issues, especially into commingled funds,” Mr. Martinic said. “But otherwise, there definitely is a shift going on. Still, when it comes to the sum of the observations, folks still like to make active plays in small caps and emerging markets equities. But large caps and EAFE are what's moving to passive.”
Year-to-date through June 6, 35% of transitions conducted by Penserra have been to passive strategies, compared to 20% in all of 2016.