Only Half of Institutional Investors Expect to Meet Target Returns by 2025: Fidelity

Institutional investors in a recent survey said they anticipate downward pressure on their ability to outperform against their return targets, Fidelity Institutional reported Tuesday.

Although respondents nearly doubled their expected required rate of return, on average, in 2020 — 12.3% actual, compared with 6.3% required — only 54% expressed confidence that they would meet their expected target rate of return over the next three years. 

When institutional investors were asked about challenges they are experiencing, 40% said it is yield generation, being forced to take on more risk for the same level of return. Thirty-nine percent confirmed that they are taking on more total risk in their portfolios than three years ago, and 37% said they are not comfortable with the total level of risk in their portfolios. 

“This year’s study signals headwinds that have been putting pressure on firms to consider taking on more risk as they look for new sources of excess returns,” Vadim Zlotnikov, president of Fidelity Asset Management Solutions and Fidelity Institutional Asset Management, said in a statement. 

“As we consider the impact of potential future macroeconomic changes, this is an opportunity for institutional investors to reevaluate their investment philosophies and decision-making processes.” 

CoreData Research executed the online survey from May 28 to July 26 among chief executive officers, chief investment officers, treasurers and other investment executives at 500 institutions in the U.S., representing $12 trillion in assets under management. 

The survey was supplemented by 11 in-depth qualitative interviews with respondents.

Investment Innovators Curve

For two decades, Fidelity has been conducting primary research to understand decision-making among institutional investors. This year, Fidelity’s study introduced a new framework called the Investment Innovators Curve to help institutions benchmark against their peers. 

Respondents selected their placement in an innovation category, based on their organization’s ability and willingness to experiment with new investment approaches and asset classes. 

The majority of institutional investors in the study placed themselves in the middle, 33% as Early Majority and 31% as Late Majority. 

However, an analysis of segments at the “tails” of this curve — made up of 5% Innovators and 18% Early Adopters at one end and 13% Laggards at the other — demonstrates how widely investment and decision-making approaches can differ depending on an organization’s orientation around innovation, Fidelity said. This is true even among institutions of similar type and size. 

Innovators/Early Adopters reported a more optimistic performance outlook when compared with Laggards, positing higher return targets — 6.8% vs. 5.7%. Innovators/Early Adopters said they had a slightly higher actual rate of return in 2020 than Laggards — 13.1% vs. 12.3%. 

When asked about challenges to their portfolios, Laggards were more likely to report concerns about yield generation and risk management. Conversely, Innovators/Early Adopters were more likely to find it hard to source differentiated investment ideas. 

Innovators/Early Adopters appear to see more opportunity in tactical changes. Ninety-three percent said they believe there may be value in short-term investment opportunities, compared with 70% of Laggards who believe this. 

Although about the same number of Innovators/Early Adopters and Laggards said they are permitted to invest in short-term market opportunities, the latter were more likely to need formal approval to make tactical changes or use tolerance bands. 

Innovators/Early Adopters were also more likely to lean on asset managers with flexible mandates or have asset class leads with discretion to make tactical adjustments when they saw fit. 

“There is no right or wrong approach to innovation, but by analyzing different investment philosophies, we hope to better understand and support the distinct needs and goals of institutional investors across the Investment Innovators Curve,” Zlotnikov said. 

Different Approaches to Asset Allocation

Institutional investors in the study overall reported an asset allocation of 63.5% to active, 28.9% to traditional passive and 7.6% to nontraditional passive. 

According to the survey, 31% of respondents expect to increase their active allocations by 2025, 47% expect no change and 22% expect to decrease. Half of Innovators/Early Adopters expect to increase.

Twenty-three percent of institutional investors expect to increase their traditional passive allocations in the same time frame, 54% expect no change and 23% expect to decrease. Twenty-nine percent of Laggards expect increases. 

As for nontraditional passive allocations, 23% of survey participants expect to increase their allocations, 69% expect no change and 7% expect to decrease. One-third of Innovators/Early Adopters expect to increase. 

Innovators/Early Adopters reported higher allocations to alternatives than Laggards, while Laggards had more of a home country bias for U.S. equity and U.S. investment-grade fixed income.