U.S. retirement plans in Pensions & Investments’ latest annual survey reported their strongest gains in three years, even as the portfolio payoff from diversification hit an air pocket and persistent equity market dominance by a handful of U.S. tech giants continued to dog investment teams.
For the year ended Sept. 30, the 1,000 largest U.S. retirement plan sponsors saw their combined defined benefit and defined contribution assets surge 16.4% to a record $15.17 trillion, up from a 7.1% gain the year before.
It was the best outing for U.S. funds in decades, with the exception of the 16.9% jump for the 12 months ended Sept. 30, 2021.
Celebrations for that prior surge, of course, were quickly cut short by the launch of an aggressive rate hiking cycle in March 2022, aimed at quashing inflationary pressures.
This time around, some asset owners contend the latest round of gains could prove more durable, on the strength of potential innovations from artificial intelligence in combination with an easing of regulatory strictures under the new U.S. administration that took power in January.
With the healthy returns for the 12 months through September added in, assets of the top 1,000 retirement plans rose 33.7% over the five years through Sept. 30 — a period that included a record 13.9% drop for the September 2022 survey period.
The latest year was the second in a row where markets climbed a wall of worry to deliver handsome, broad-based gains, defying expectations that the recent monetary tightening cycle would push the U.S. economy into recession.
An economic slowdown and softer corporate earnings seemed likely at the outset of the latest year but they never came to pass, noted Michael Brakebill, chief investment officer of the $87.1 billion Tennessee Consolidated Retirement System, which includes $73.2 billion in DB assets.
Instead, “you had a huge boom in prices of pretty much everything,” led by a 36% gain for TCRS’s U.S. stock portfolio, Brakebill said. Even the plan’s fixed-income holdings rose by more than 15% — “just huge numbers,” he said.
A 17.2% increase in retirement assets lifted Tennessee Consolidated to 25th place in the latest rankings, up from 30th the year before.
Stable top 10
The upper echelons of the latest rankings were decidedly stable, with no change in the top 10. The Federal Retirement Thrift Investment Board remained top of the pack with a 21.9% gain to $954.3 billion, followed by nine public pension plans from California, New York, Florida, Texas, Washington and Wisconsin, posting gains of between 11.5% (New York State Common) and 19.8% (CalPERS).
The broader rankings, however, continued to offer hints of change to come, with defined contribution plans sponsored by big technology firms with large, skilled workforces making steady progress toward returning corporate plans to the top 10 for the first time since Boeing nailed down 10th place in P&I’s 2021 survey.
Among them, Microsoft’s DC plan jumped to 43rd place from 58th the year before, on the back of a 43% gain in retirement assets to $60.8 billion; Alphabet’s DC plan climbed to 64th place from 78th, powered by a 44% rise to $44.6 billion, and Amazon.com surged to 97th place from 141st, with a 57% gain to $29.9 billion.
Boeing, meanwhile, slipped to 13th place in the latest survey, on the back of a 13.1% gain in retirement assets to $134.8 billion, from 12th place the year before.
Alongside the stellar returns for U.S. equities, index returns for asset classes powering the top 1,000’s gains for the latest year included international developed market and emerging market equities, up roughly 25% apiece; emerging market debt, up 18%; hedge funds, up 12.6%; U.S. and global bonds, up roughly 11% each; leveraged loans/private credit, up 9.6% and cash, yielding 5.5%.
Real estate, still working its way through COVID-related ripple effects such as the impact of remote working on office demand, was the only sizable market segment to see a decline, of roughly 3.5%, for the year.
In a sense, the latest period offered a mirror image of the September 2022 survey results, which saw double-digit declines for equity and fixed income but resilience for private market exposures — helping the biggest, diversified plans outpace their smaller counterparts.
For the survey through Sept. 30, by contrast, private equity lagged, with gains of just over 5% — a drag for a year where the S&P 500 index was jumping 36.4% and its growth index was surging 42.2%, said Mark Brubaker, a Pittsburgh-based senior consultant, managing director and corporate sector leader with institutional consultant Verus Advisors.
That effectively made diversification — the proverbial “free lunch” of institutional investors — an empty meal for the latest year, with smaller plans that generally have more exposure to public markets posting stronger growth than the biggest funds. Defined contribution plans with more of a U.S. home country bias and relatively heavy equity allocations likewise outpaced the gains of well-diversified defined benefit plans.
For the latest survey, the 200 biggest U.S. plan sponsors reported a 15.6% gain in combined assets to $10.92 trillion, 80 basis points shy of the top 1,000 growth. The top 100 and top 50 grew 14.9%, a full 1.5 percentage points below the pace of the broader universe.
Meanwhile, the 200 biggest plan sponsors reported a 22.1% gain in defined contribution assets to $3.89 trillion, outpacing the 12.2% rise for defined benefit assets to $7.03 trillion. Some analysts attributed that gap, in part, to greater home country and “recency” bias, which provided participants with heightened exposure to U.S. large caps as the market embarked on the latest leg of its bull run.
Brubaker said that, simply put, over the past year “those that were heavily invested in public equities did the best, and those that were overallocated to privates … didn’t fare as well."
Private markets
P&I’s latest survey showed allocations by the DB plans of the 200 biggest U.S. retirement plans to a number of private market segments faltering, including private equity buyouts, down 4.8% to $398.1 billion; venture capital, off 7.4% to $53.9 billion; and hedge funds, slipping 2.6% to $148.5 billion.
But other market segments remained in demand, including private credit, up 57% to $198.4 billion and infrastructure, up 20% to $112.7 billion.
Aaron Chastain, an Atlanta-based principal and corporate solutions leader with NEPC, said the steady appeal of private credit likely reflects its relatively attractive balance of risk and returns. “A lot of particularly large plan sponsors … still have return needs for their growth portfolio but are wanting to incrementally derisk as they get better funded. I think we’re seeing a little bit more focus on private credit as that middle ground,” offering high returns with both superior safety and shorter duration than something like private equity, he said.
Consultants say they’re urging clients to continue considering additional allocations to private markets this year, even if they’re grappling with persistent denominator effect pressures, in pursuit of vintage year diversification. Some plan sponsors say it will be far easier to do so if and when distributions on existing investments become healthier.
Tennessee Consolidated’s Brakebill said he sees reason for optimism now on that score. Recent updates from the plan’s private markets managers have pointed to healthier returns, he said.
“One would think that valuations in the public markets are good enough that we should have a pipeline of distributions set to come,” setting the stage for the market to improve and clear, Brakebill said.
“If it takes a year, it takes a year, but it seems like it’s underway right now,” he said.
What now?
Despite the past year’s pleasant beta backdrop, meanwhile, a number of veteran CIOs have been left fielding questions from their boards and investment committees as to what they’re thinking now on questions such as U.S. market dominance, or “American exceptionalism,” as well as the right amount of exposure to have to the Magnificent Seven tech giants — Alphabet, Amazon, Apple, Meta Platforms, Microsoft, NVIDIA and Tesla — dominating U.S. equity benchmarks such as the S&P 500 and the Russell 3000.
“The big story for us as an asset owner is diversification is lagging,” a considerable headwind for a portfolio that’s 100% actively managed and consequently Mag Seven light, noted Paul Colonna, president and CIO of Lockheed Martin Investment Management Co., which oversees Lockheed Martin Corp.’s more than $85 billion in retirement assets — roughly 70% in DC and 30% in DB.
Lockheed responded last year by employing a long-standing “beta balancing” process, in partnership with a firm that rolls up all of Lockheed’s active manager exposures and allows it to fill gaps with a completion portfolio. That program was buying more of the Mag Seven over the past year, Colonna said.
Despite that adjustment, Lockheed’s portfolio remained underweight those tech giants, which ultimately offset the broad-based gains Lockheed’s investment team made last year “everywhere except U.S. large-cap tech,” he said.
For now, Colonna suggested, a stiff upper lip looks to be the best response.
“We should be prepared for years where — if six stocks are going to control the whole thing and nobody cares about anything outside the U.S. — we’re not going to perform well,” he said.
Over the longer term, maintaining a focus on valuations should prove the right thing to do, Colonna said.
An estimated 11.5% gain in retirement assets buoyed Lockheed Martin to 26th place in the latest rankings, up one step from the year before.
Charles Van Vleet, CIO of Textron Inc.’s $14.5 billion in retirement assets, said the Mag Seven have proven a challenge for him as well as he works with boards, investment committees and shareholders that pay close attention to benchmarks such as the S&P 500.
Last year, Textron’s answer to that Mag Seven problem was to boost allocations to 140-40 extension strategies, which maintain a beta of one by adding 40% in long positions offset by 40% in short positions — allowing managers to “address the Mag Seven and still have capital playing the other 493” S&P components, Van Vleet said.
That, in turn, has made Textron’s allocation to U.S. large-cap equities — which Van Vleet had made increasingly passive over the years, even as he sought alpha in less efficient international and emerging market stock markets — a bit more active for now, helping to lift the $8.5 billion DB portfolio’s U.S. large-cap active assets to $949 million at the close of 2024 from $763 million the year before.
He called the Wellington Management global 140-40 extension fund Textron uses “a great performer” with an elegant design aimed at remaining sector neutral vis-à-vis the benchmark — effectively making each sector team a hedge fund for its portion of the portfolio. He said the other extension strategy Textron uses, managed by J.P. Morgan Asset Management, has likewise done well.
Analysts say the challenges posed by the Magnificent Seven have prompted other asset owners to shift some of their still largely passive U.S. equity allocations to active.
According to the latest survey, allocations among the 200 largest plans to active U.S. equities rose 34.2% for $339.1 billion, while passive U.S. equities rose 16.8% to $835.1 billion. (This is the first year P&I eliminated enhanced equity and fixed income categories, partly boosting active.)
Verus’ Brubaker said with the Magnificent Seven accounting for more than 30% of the index over the past year, some clients, at the margin, have been moving assets out of passive and into active to improve diversification and reduce risk.
NEPC's Chastain said that urge to diversify away from an overconcentrated S&P 500 index has led clients to seek out more active strategies with less reliance on the Mag Seven, including global equity strategies offering broader opportunities to seek alpha.
The latest survey shows global equity assets, active and passive, surging 21% over the year through Sept. 30 to $361.4 billion.
Other market segments posting sizable gains for the latest year include passive U.S. fixed income, which jumped 73% to $302 billion.
Chastain said with credit spreads over Treasuries narrowing last year, some investors have concluded that they’re no longer getting paid to hold credit. Switching into passive Treasuries leaves them positioned more cautiously to lean into credit again in the event of market dislocations.
Policy uncertainty, asteroid mining and satellites
If asset owners came to the past two P&I survey periods arguably more cautious about their immediate investment prospects than proved necessary, they appear to be more mixed now, coming into what is arguably a period of unprecedented policy uncertainty.
With a newly installed administration in Washington suggesting more fundamental changes to come in the way government and regulatory oversight is conducted, some observers contend that approaches for diversifying institutional portfolios could require some tweaks along the way.
The potential for significant policy changes “could lead many allocators to rethink their strategies,” said Robin L. Diamonte, chief investment officer of RTX’s $103.3 billion in retirement assets.
RTX isn’t necessarily one of them. With a fully funded corporate defined benefit plan that’s 80% hedged, on the strength of a substantial bond portfolio, Daimonte suggested RTX is well situated to ride through any policy volatility.
But “if I were managing an underfunded plan or one where strong returns were necessary, I would likely focus on venture capital, private equity and public equity investments, particularly in sectors benefiting from artificial intelligence,” which she termed a “true game-changer.”
“Additionally, I would explore digital currencies, domestic companies with minimal international supply chain exposure and technologies related to space exploration, asteroid mining and satellites,” she said.
Others said potential policy changes aren’t keeping them up at night.
Such factors shouldn’t matter “when it comes to our portfolio construction,” said Jonathan E. Glidden, CIO of Delta, in an email. “The world is always uncertain,” which makes the best approach one of running a fairly regime-diversified portfolio and leaning hard on alpha, he said.
“The headline risk will be higher than ever” but at the end of the day all of the hour-by-hour, day-by-day fireworks will just be noise, said Stephen DiGirolamo, Pittsburgh-based managing director with Wilshire Advisors.
“There are no true indicators that are easy to invest on,” no tactical plays, so more than ever the best way forward is to continue to play the long game, DiGirolamo said.
Lockheed’s Colonna said that trying to glimpse whatever forest can be found, as opposed to focusing on policy trees, could prove the best way forward.
“We don’t feel like anyone really has a great sense of being able to predict all of the possible changes (that could emerge from Washington) so we tried to simplify it down” and look at what’s actionable and makes sense, and the answer was volatility, Colonna said.
So, Lockheed’s team is going long volatility, buying VIX futures, figuring that’s a reasonable way to position the portfolio for the coming six to nine months, without being able to know the ins and outs of every policy angle, he said.
At least for now, some asset owners say it’s a good time to be cautious.
“I’m still in ‘wall of worry’ mode,” said Tennessee Consolidated’s Brakebill. “I’m not a doomsayer” but the market has had a fantastic run, valuations are stretched and individual investors’ appetite for risk is extremely high — typically bearish signs, he said. “I think you should be investing right now with eyes wide open.”
For the longer term, however, some investors remain unabashedly bullish.
The S&P 500 “has compounded 12% the last 10 years,” noted Textron’s Van Vleet, adding “why would you walk away from that?” And the next 10 years promise to be equally good if not better, he said, pointing to the promise of innovations in areas such as artificial intelligence, gene editing technology, weight loss drugs and fusion.
