Despite the decline in U.S. Treasury bond yields since the outbreak of the COVID-19 pandemic early this year, many institutional investors remain committed to the government bonds because they still offer liquidity and safety.
However, given ongoing concern about high equity valuations, ultralow interest rates, uncertain inflation moves and difficult market conditions, asset owners increasingly are implementing or considering making tactical changes to their asset allocations and some are turning to explicit hedging strategies to better protect their portfolios on the downside.
The $45.6 billion Public School and Education Employee Retirement Systems of Missouri, Jefferson City, for example, increased the fund's allocation to U.S. Treasuries to 20% from 16% this year even though "Treasuries are painful to hold right now. We need them for safety and liquidity," CIO Craig Husting said in an interview.
He said that with the yield on a 10-year U.S. Treasury bond under 1%, "we are sacrificing yield for the protection Treasuries offer."
The 4-percentage-point increase in the U.S. Treasury bond allocation was funded by the elimination of Treasury inflation-protected securities because "in a low-interest-rate environment, we preferred the flexibility to opportunistically invest in TIPS instead of maintaining a static allocation," Mr. Husting said. He said that a 9% allocation to public credit also was zeroed out because "we wanted a cleaner, less risky fixed-income strategy."
By way of seeking higher returns to make up for low U.S. Treasury bond yields, the plan continues to build out its private market portfolios.
Mr. Husting said the allocation to private credit was increased by 2 percentage points to 8%; the private equity target was raised to 16% from 12%; and the real estate portfolio was increased to 11% from 9%.
"We feel pretty good about the portfolio, but it's a tough environment to get to where we want to go," said Mr. Husting, noting that the systems' assumed rate of return is 7.5%. He added, "We will lower it if necessary."