Institutional investors will increase their allocations to liquid alternative ETFs from $47 billion to $114 billion in the next 12 months, according to a new study from Greenwich Associates.
“For more than 20 years, institutional investors have been adding alternative asset classes to their portfolios, Andrew McCollum, Greenwich Associates managing director and author of the report, said in a statement. “More recently, institutions have been adopting ETFs as a versatile, jack-of-all-trades portfolio tool.”
McCollum said the intersection of these trends could ultimately transform alternative investments in institutional portfolios.
Greenwich Associates conducted in-depth telephone interviews between April and June with 107 senior fund professionals at large U.S. institutions. Participants in the study, commissioned by IndexIQ, included public funds, corporate funds, endowments and foundations, and family offices, as well as representatives from outsourced chief investment officers and consultants.
According to the study, liquid alts currently represent about 4% of institutional assets, with average allocations ranging from a high of 6% of total assets among public pension funds to a low of 2% among corporate funds and OCIOs in the U.S.
These allocations represent $882 billion in institutional assets invested in liquid alts, including $564 billion from public funds.
A Novel Vehicle
Liquid alternative ETFs are a relatively novel vehicle for most institutional investors, the report said.
However, more and more institutions are taking advantage of liquid alt ETFs’ liquidity and relatively low costs in tasks ranging from manager transitions and tactical portfolio adjustments to taking on long-term investment exposures and replacing fund-of-fund investments.
Institutions that use liquid alt ETFs invest an average 3% of total assets to the funds, the study found.
Greenwich Associates noted, however, that over the decade it has been tracking institutions’ use of ETFs, it has documented a consistent pattern that has unfolded across institution type, geographic region and asset class, namely, that institutions start with small investments in ETFs, generally for a single tactical task, such as a manager transition.
Soon, these allocators discover that ETFs are not only safe and effective in these tasks, but are also highly flexible. Over time, institutions start adopting ETFs for more and increasingly strategic portfolio functions.
Greenwich Associates said it expected liquid alt ETFs to follow a similar trajectory. According to the study, some 20% of institutions not currently invested in liquid alt ETFs said they would consider using them in the year ahead. This group included big public pension funds and a growing number of family offices that has the potential to increase assets in the category quickly.
At the same, about one in 10 current investors said they planned to increase allocations to liquid alt ETFs in the next year.
“Given institutions’ embrace of ETFs in other asset classes and their ample appetite for alternatives, it’s possible — even likely — that large numbers of these investors will experiment with liquid alt ETFs when given an opportunity and that allocations and total investment will rise steadily for the foreseeable future,” McCollum said.
Over the past decade, according to the study, U.S. institutional allocations to alternative asset classes have grown from an average of 19% of total assets to 26%. Current allocations by these investors represent some $5 trillion in assets. The study noted that some global projections put institutional investments in alternative assets in the neighborhood of $15 trillion to $20 trillion by 2020.
The study found that hedge funds are the most popular category of liquid alts, used by three in five institutions, followed by real estate, used by half of institutions. Private equity came in a distant third.
About two in five investors use liquid alts in “other” areas, such as futures, commodities, agriculture, infrastructure and private credit.
Surveyed institutions said liquid alt ETFs appealed to them because they provide the same benefits as liquid alts: enhanced liquidity, improved portfolio diversification and heightened transparency.
The study found, however, that institutions were much likelier to cite attractive fee levels as a reason for investing.
Survey participants also raised some of the same concerns with ETFs that they had for liquid alt vehicles generally, including issues about liquidity in times of market stress.