Market Pulse: Alternative Assets Survey - J.P. Morgan · 4 MArKet Pulse: AlternAtIVe Assets surVey...

Market Pulse: Alternative Assets SurveyResults from J.P. Morgan Asset Management’s latest poll of institutional investors

About

J.P. MorgAn Asset MAnAgeMent

For more than a century, institutional investors have turned to J.P. Morgan Asset Management

to skillfully manage their investment assets. This legacy of trusted partnership has been built

on a promise to put client interests ahead of our own, to generate original insight, and to

translate that insight into results.

Today, our advice, insight and intellectual capital drive a growing array of innovative strategies

that span U.S., international and global opportunities in equity, fixed income, real estate,

private equity, hedge funds, infrastructure and asset allocation.

This publication was edited, designed and produced by the Institutional Americas marketing

group at J.P. Morgan Asset Management.

©2010 JPMorgan Chase & Co.

All rights reserved.

t A b l e o f c o n t e n t s

1

foreword

2overview

41. Key findings

132. Investor segments—Additional details

20

3. Alternative strategies—Additional details

IV MArKet Pulse: AlternAtIVe Assets surVey

f o r e w o r d

J.P. MorgAn Asset MAnAgeMent 1

In our dialogue with clients following the depths of the financial crisis, we have found institutional investors to be extremely resilient. They have emerged stronger, and with a better understanding of the gates, lock-ups and other liquidity-related issues associ-ated with their investments. Many are exploring and instituting new frameworks and procedures to better assess how alpha, beta and liquidity risk impact their portfolios.

With that perspective in mind, in March through April of this year we undertook our latest institutional investor survey, Market Pulse: Alternative Assets, to test the hypothesis that following a period of R&R (reticence and reassessment) investors are resuming their steady march from the traditional to the alternative.

The results are clear: corporate plans, public funds, endowments, foundations and other institutions are carving out an increasing role for alternative strategies (hedge funds, private equity, real estate, infrastructure, commodities and other real assets) in their portfolios, while decreasing traditional long-only allocations. We have observed a similar trend in our institutional investment surveys since 2005 and see this latest investor poll as evidence that, despite the most devastating period for the markets in decades, the trend continues.

We are deeply grateful to all the institutions that took part in our research and made this report possible. We hope this research prompts new insights as you compare your own thoughts, practices and portfolios with those of your peers and that it will serve as part of our continuing dialogue. Sincerely,

John H. Hunt CEO Institutional Americas J.P. Morgan Asset Management

t h r o u g h c r i s i s , c a l m , r e c o v e r y a n d r e s u r g e n c e

it is our mission to remain close to our clients—to keep a finger on the

pulse of the markets and support investors in finding the best way forward

through a changing and challenging environment.

John H. Hunt CEO Institutional Americas J.P. Morgan Asset Management

2 MArKet Pulse: AlternAtIVe Assets surVey

o V e r V I e w

J.P. Morgan’s Market Pulse surveys are designed to capture the changing perspectives, shifting allocations and developing portfolio management trends of investors as they continue their passage out of crisis, into recovery and beyond.

Our 2010 survey, conducted in March through April of this year, encompasses the views of 349 investors from 325 North American institutions including corporate plans, public funds, endowments, foundations and others (see sidebar). Through an on-line survey with a specific focus on alternative assets including: hedge funds, private equity, real estate, infrastruc-ture, commodities and other real assets, we asked these investors to share with us where they are now, where they are headed over the next 12 months and what their strategic investment objectives are over a two to three year horizon.

Survey results confirm that overall, investors are carving out a broader role for alternatives within their portfolios while trimming back traditional long-only equity allocations.

I n o u r l a t e s t s u r v e y, M a r k e t P u l s e : A l t e r n a t i v e A s s e t s , we set out to test the

hypothesis that after an initial “pause” and re-assessment of portfolio strategies following the depths of the recent

financial crisis, investors are resuming their steady march from the traditional to the alternative. The results of our

research suggest this is indeed the case.

Nowhere is this trend toward alternatives more pronounced •than among public pension plans, where alternative alloca-tions are set to increase from 14% to 21% of assets over the next two to three years.

The “endowment model” appears alive and well. Alternatives •continue to dominate the portfolios of larger E&Fs (with $1 billion or more in assets) while allocations among smaller E&Fs (under $1 billion) are well above those of corporate and public plans of similar size, and growing at a healthy pace.

Corporate plans, driven by the need to control the volatility •of funded status while enhancing returns, are increasing fixed income allocations (and their duration) and expanding alternatives (though at a slower rate than their public fund counterparts).


In addition to these broad findings across investor types, on the strategy level we find:

Over the next three to five years, Asia/Pacific is viewed as •the region of greatest opportunity for alternative invest-ments; private equity and infrastructure allocations to the region are expected to see notable growth, albeit from a small base.

While liquidity is a primary concern, the need for liquidity •has also created opportunity; among those investing or planning to invest in private equity, almost 40% have invested or intend to invest in the secondary market.

Investors have begun to adopt a more risk factor-based view •of hedge funds within the portfolio context—treating them, not as a separate “asset class” but rather as a less con-strained, more actively managed and less liquid extension of their traditional debt and equity allocations.

Of course, different types of institutions vary in their specific investment objectives, regulatory constraints and challenges in ways that shape their investment behaviors. And to be sure, the experiences of the past few years have brought a sharper

o v e R v i e w

focus on transparency, fees, lock-ups and other liquidity-related issues often associated with alternative investing. But market dynamics have also shown that volatility and turmoil can offer opportunities for alpha generation in the hands of skilled, less constrained managers. What’s more, the financial crisis has emphasized the importance of diversification, infla-tion protection and managing down-side risk while striving to maximize returns over the long run. Our results suggest that investors understand and value alternatives for their potential to address these risk and return objectives.

To varying degrees and in different ways, corporate and public plans, endowments, foundations and other institutions are continuing to evolve in their use of alternatives, expanding into new markets and strategies, adopting new perspectives and, in the process, defining an increasingly important role for alternative strategies in their portfolios.

Section 1 of this report provides the key findings and conclusions of our survey. A more detailed analysis by investor segment follows in Section 2. Section 3 includes additional results by type of alternative strategy.

r e s e A r c h M e t h o d o l o g y

our on-line survey was completed by 349 respondents from a universe of approximately 3,000 North American institutional investors, including clients and prospects of J.P. Morgan Asset Management, across all client segments.

Corporate 43%

Public Fund 18%

Endowment/Foundation23%

Taft-Hartley 3%

Other 12%

Less than $1 billion45%

$1 billion to <$10 billion44%

$10 billion +11%

resPondent ProfIle by tyPe of InstItutIon resPondent ProfIle by sIze (Assets under MAnAgeMent As of 12/31/09)

Q: Please indicate your type of institution.components may not sum to 100% due to rounding.

Q: Please indicate your investment portfolio’s AuM as of 12/31/09.


1 . K e y f I n d I n g s

Market outlook: what a difference a year MakesOur survey was conducted in March–April 2010, when equity markets had rebounded, credit spreads had tightened consid-erably from their wides, and real estate was poised to rebound. On most fronts, the world was a lot brighter than at the time of our last Market Pulse survey in April–May, 2009.1 Admittedly, recent developments in Greece and other eurozone economies, disappointing U.S. employment results and May/June market declines have since shaken investor’s confidence to some de-gree but, at the time of our 2010 survey, respondents:

Anticipated a rising rate environment (72% expected •increasing yields over the next 12 months)

Had positive expectations for equity returns (60% expected •an increase over one year, building to 70% over a five-year horizon)

Believed the outlook across most alternatives would improve •in the ensuing 12 months, with the most positive outlook for private equity (exhibit 1.1)

Saw the greatest opportunities over the intermediate term •in real estate and hedge funds (exhibit 1.2)

Viewed Asia/Pacific as the geographic region of greatest •opportunity for alternatives over the next three to five years (exhibit 1.3)

1 Market Pulse: Equity Views Survey, April-May 2009, J.P. Morgan Asset Management.

exhIbIt 1.1: oVerAll, An IMProVIng outlooK for AlternAtIVes oVer the next 12 Months

Q: what is your investment outlook for the following alternative asset classes over the next 12 months?base = 349 respondentscomponents may not sum to 100% due to rounding.

0 20 40 60 80 100

56 1332Hedge Funds

62 1226Private Equity

52 2522Real Estate

44 1046Infrastructure

53 1432Commodities

44 948OtherReal Assets

Improving No change Worsening

% of respondents


Results for real estate revealed some uncertainty about the timing of a rebound. As seen in exhibit 1.1, twenty-five percent of respondents thought the outlook for real estate would get worse over the coming 12 months. Further, when asked explicitly about the timing of a real estate turnaround, over half (55%) saw 2011 as the turnaround year, while 10% anticipated a rebound in 2010, 18% in 2012 and 13% in 2013 or later (the remainder did not provide a specific time frame). However, as seen above, when investors were asked to choose the alternative with the greatest investment oppor-tunities three to five years out, real estate was a top choice (exhibit 1.2).

K e y f i N d i N g S

exhIbIt 1.2: greAtest InVestMent oPPortunItIes oVer the next 3 to 5 yeArs

Q: of the following alternatives, which do you feel offers the greatest investment opportunity over the intermediate investment term? (i.e., 3 to 5 years... check only 1)base = 349 respondents

Hedge Funds24%

Private Equity21%

Real Estate24%

Infrastructure9%

Commodities16%

Other Real Assets6%

exhIbIt 1.3: InVestors Are bullIsh on AsIA/PAcIfIc for AlternAtIVe InVestMents

Q: which of the following geographic regions do you feel offers the greatest opportunity for alternative investments over the intermediate investment term (i.e., 3 to 5 years)? (check one)base = 349 respondentscomponents may not sum to 100% due to rounding.

North America37%

Europe3%

Asia/Pacific56%

Other5%

Allocations: back on track from traditional to AlternativeOur broad asset allocation results suggest to us a shift in posture on the part of investors with respect to portfolio allocations since the months shortly after the peak of the financial crisis.

We conducted our first Market Pulse survey in April–May 2009, just after the S&P 500 hit its March lows following a decline of 57% from its October 2007 peak. We found investors cau-tiously rebuilding their equity portfolios back toward pre-crisis targets, with little change in alternatives looking 12 months out (exhibit 1.4, left side).

In contrast, broad asset allocation results from our recent 2010 survey (exhibit 1.4, right side) indicate an increase from 16% year-end 2009 actual alternative allocations to a strategic target of 20% over the next two to three years—an increase funded primarily by a decline in equity allocations.

exhIbIt 1.4: After A PAuse for reAssessMent, InVestors Are AgAIn shIftIng towArd AlternAtIVes

Q: Please indicate your asset allocation as of 12/31/08 as well as your original target weight at that time. Please also indicate what your target allocation is for 12 months from now. (2009 survey)Q: Please indicate your current asset allocation (as of 12/31/09), your target asset allocation (12/31/10) as well as your strategic asset allocation (2 – 3 years out). (2010 survey) note: composition of respondent base varies somewhat between surveys.Average allocations include investors and non-investors.base = total 272; corporate 147; Public 52; endowments/foundations 35, taft-hartley/other 38 (2009 survey)base = total 306; corporate 138; Public 56; endowments/foundations 65; taft-hartley/other 47 (2010 survey)

Source: J.P. Morgan Asset Management surveys: 2009, 2010.

54

47

51

4645

43

3135

3335 35 35

12 13 13 16 18 20

3 5 3 3 2 2

0

1020

30

40

50

60

70

80

90

100

Original2008 Target

Actual2008

12–monthTarget

Actual2009

Target2010

Strategic (2–3 years)

Market Pulse—Spring 2009 Survey Market Pulse—Spring 2010 Survey

Equities Fixed income Alternatives Cash

Perc

ent


We have observed a shift toward alternatives and away from traditional assets in our pension plan surveys since 2006.2,3 We see in our latest results evidence that investors are back on this track, following a crisis-induced period of re-evaluation.

How pervasive is this increasing reliance on alternatives? In addition to overall shifts in average allocations, our analysis

looked at the number of investors increasing, decreasing and maintaining total alternative allocations (comparing year-end 2009 allocations to strategic levels two to three years out) and found that the majority (56%) have set strategic allocations above actual 2009 levels while 31% planned to maintain 2009 allocations. Only 13% were planning to decrease alternatives’ share—and, on average, these investors already had relatively large allocations to alternatives (24.8%) (exhibit 1.5).

how Alternatives stack upThe advantages of the most established categories of alterna-tives are by now well known among institutional investors: return enhancement, diversification and, in the case of real estate, inflation protection. However, as with most asset classes, the recent financial crisis served to underline their disadvantages—e.g., less liquidity and transparency and higher fees than traditional long-only strategies (exhibit 1.6). Yet, our results suggest that on balance, given recent experiences and lessons learned, investors have maintained their faith in alter-natives and overall, are expanding allocations to these strate-gies, seeking greater diversification and a more optimal alpha/beta mix. Hedge funds, private equity and real estate alike are expected to participate in the growth of alternative allocations over the next two to three years. At the same time, infrastruc-ture, commodities and other real assets, currently represent-ing only a small portion of alternative portfolios overall, are expected to attract new investors (exhibits 1.7 – 1.9).

K e y f I n d I n g s

2 Pension Investment Strategies for a New Playing Field: J.P. Morgan’s survey of major U.S. pension plans, June–July, 2006.

3 Next Generation Alternative Investing: J.P. Morgan’s survey of major U.S. institu-tional investors, First Quarter, 2008.

exhIbIt 1.5: the MAJorIty of InVestors Are IncreAsIng or MAIntAInIng totAl AlternAtIVe AllocAtIons

base = 306 respondents; average allocations include investors and non-investors.

12

14

16

18

20

22

24

26

28

Actual 2009allocation

Target 2010allocation

Strategic (2–3 years)allocation

Alt

erna

tive

allo

cati

on (%

)

56% of respondents—Increasing 14.6 19.3 23.3

31% of respondents—Maintaining 14.3 14.2 14.3

13% of respondents—Decreasing 24.8 23.7 23.7

Q: when considering investments in (alternative), what are the top three advantages/disadvantages [check 3]? (for those investing/planning to)Q: what are the top three challenges preventing you from investing in (alternative) [check 3]? (for those not planning to invest) base = hedge funds: Investing/planning to invest 191, not planning to 158; Private equity: Investing/planning to invest 211, not planning to 138; real estate: Investing/planning to invest 248, not planning to 101.

exhIbIt 1.6: AlternAtIVes—greAtest AdVAntAges And dIsAdVAntAges

greatest Advantages (% of respondents)

greatest disadvantages (% of respondents)

greatest deterrents (% of respondents)

Hedge funds diversification 73%• fees 70%• Transparency 59%•

Returns 63%• Transparency 68%• Fees 44%•

volatility of returns 51%• Liquidity 67%• Volatility of returns 28%•

Private equity Returns 94%• Liquidity 85%• Liquidity 62%•

diversification 68%• fees 68%• Transparency 43%•

Top manager access 42%• Transparency 27%• Fees 30%•

Real estate diversification 81%• Liquidity 79%• Liquidity 66%•

inflation protection 65%• Fees 48%• Returns 29%•

Returns 63%• Leverage 34%• Internal resources 25%•



hedge funds

Relative to private equity and real estate (more seasoned components of institutional portfolios) hedge funds have lower participation rates (exhibit 1.8). However, those who do invest in hedge funds have average allocations of 12%—the largest for any alternative asset category (exhibit 1.9). Across all respondents (investors and non-investors), average allocations are expected to increase from 5.6% to 6.8% (exhibit 1.7). As shown in Section 2 of this report, while endowments and foundations dominate this space, public funds, which currently have the smallest hedge fund allocations and lowest participation rate, are expected to have the fastest rate of growth in hedge funds across institutional segments.

Given that hedge funds are essentially the ultimate expression of active management within the spectrum of equity and credit strategies, there has been much discussion about how they should be categorized within institutional portfolios: along with the appropriate traditional asset category, or as a stand-alone “hedge fund” or “absolute return” allocation. Our results show that various approaches are being used, with a stand-alone hedge fund allocation still most common, but with equity/fixed income categorization gaining ground, particularly among larger firms (exhibit 1.10).

exhIbIt 1.7: Modest IncreAses exPected Across AlternAtIVe cAtegorIes

Q: Please indicate your current asset allocation (as of 12/31/09), your target asset allocation (12/31/10) as well as your strategic asset allocation (2 – 3 years out). base = 306 respondents; average allocations include investors and non-investorsnote: Question applies to exhibits 1.7 – 1.9.

Hedge Funds Private Equity Real EstateInfrastructure Commodities Other Real Assets

0

5

10

15

20

25

5.6

4.0

3.9

15.82.3

Actual2009

6.4

4.5

4.5

18.2

Target2010

6.8

4.9

4.9

20.2

Strategic(2–3 years)

Perc

ent

2.83.6

exhIbIt 1.8: PercentAge of resPondents currently InVestIng And PlAnnIng to InVest In...

base = 306 respondents

% investing % planning to

46

8

HedgeFunds

52

8

PrivateEquity

61

8

RealEstate

9

9

Infrastructure

16

10

Commodities

17

5

OtherReal Assets

Perc

ent

exhIbIt 1.9: AVerAge AllocAtIons for those currently InVestIng In…

base = those currently investing in the alternative category (number of investors is in parenthesis)due to small sample size, some results should be interpreted directionally only.

4.3

5.7

12.3

13.6

7.68.5

6.37.2

5.2 5.1

6.7 6.8

Hedge Funds(140)

Private Equity(160)

Real Estate(188)

Infrastructure(29)

Commodities(48)

Other Real Assets (51)

Actual 2009 Strategic (2–3 years)

Perc

ent

exhIbIt 1.10: InVestors Are begInnIng to cAtegorIze hedge funds As PArt of eQuIty And fIxed IncoMe AllocAtIons

Q: how do you categorize your hedge fund allocation? (check all that apply)base = those investing or planning to invest in hedge funds: less than $1 billion 77, $1 billion to < $10 billion 90, $10 billion+ 24due to small sample size, some results should be interpreted directionally only.

0 10 20 30 40 50 60

2632

53

4342

5

37

52

52

39

7

6

38

46

50

8

By risk factor/traditionalasset categories

(e.g. Equity/Fixed Income)

As a stand-alone Hedge Fund allocation

Absolute return

Other

Less than $1 billion $1 billion to <$10 billion $10 billion +All respondents

% of respondents


real assets: Infrastructure, commodities and other

Real assets, broadly defined to include not only real estate, but also infrastructure, commodities and other real assets (maritime investments, oil and gas, timber, water rights and other private partnerships), can provide investors with opportunities to further enhance returns, diversify portfolio assets and manage the impact of inflation on asset values.

Private equity

More than any major alternative category, private equity is valued first and foremost for return generation (exhibit 1.6). Participation rates are higher than for hedge funds and lower than for real estate, while the reverse is true for average allocations among current investors (lower than for hedge funds, higher than for real estate, exhibits 1.8 – 1.9). Across all respondents, allocations are expected to increase from 4.0% to 4.9% (exhibit 1.7). This is another alternative category where E&Fs dominate, but where public funds anticipate significant increases in allocation and participation rates.

While liquidity has been an acute concern for private equity investors through the recent market turmoil, the need for liquidity has generated attractive investment opportunities. This is evidenced by the 39% of investors who reported having purchased private equity interests on the secondary market in the past 12 months (26%) or those planning to do so over the next 12 months (13%) (exhibit 1.11).

Investors also see private equity as a way to benefit from the Asia growth story. While Asia/Pacific accounts for only 10% of current private equity portfolio allocations, that share is expected to increase to 15% over the next 12 months (exhibit 1.12).

real assets: real estate

Real estate has an important role in institutional portfolios as a diversifier, source of returns and an inflation hedge (an increasing concern for investors, given budget deficits resulting from accommodative fiscal and monetary policy in response to the financial crisis). A greater percentage of inves-tors participate in real estate than in any other alternative category (exhibit 1.8). With current allocations (3.9%) below strategic targets (4.9%), growth is anticipated (exhibit 1.7).

Public funds are expected to be the drivers of this allocation shift, since (based on our detailed analysis) almost all public funds (89%) invest in real estate; their average allocations are greater than those of corporate plans or E&Fs and they have the largest gap between current and strategic allocations (see exhibit 1.16 and Section 2 of this report).


exhIbIt 1.11: PercentAge of PrIVAte eQuIty InVestors who hAVe PurchAsed or Are PlAnnIng to PurchAse PrIVAte eQuIty Interests on the secondAry MArKet

Q: have you purchased any private equity on the secondary market in the last 12 months?base = those investing or planning to invest in private equity: total 211; corporate 84; Public 41; endowments/foundations 61; taft-hartley/other 25

Yes, I've purchased No, but I plan to purchase in the next 12 monthsNo, and I have no plans to purchase Not sure

25 13 52 10

32 17 32 19

25 11 56 8

26 13 50 11

Endowment/Foundation

Public Fund

Corporate

AllRespondents

0 20 40 60 80 100% of respondents

exhIbIt 1.12: InVestors PerceIVe oPPortunIty In AsIA/PAcIfIc PrIVAte eQuIty

Q: Please indicate the percentage of your private equity portfolio you currently invest and plan to invest over the next 12 months, in the following geographic areas (total = 100%).base = those investing or planning to invest in private equity. current allocations 168, Planned allocations 134.components may not sum to 100% due to rounding.

70

1610

3

64

1815

3

0

10

20

30

40

50

60

70

80

North America Europe Asia/Pacific Other

Current allocation (%) 12–month target (%)

Perc

ent


These “real opportunities” (infrastructure, commodities and other real assets) represent only a thin slice in the portfolios of our survey participants, accounting for 2.3% of average portfolio allocations today, and targeted to increase to 3.6% over the next two to three years (exhibit 1.7). Participation rates are expected to rise, particularly for infrastructure and commodities (exhibit 1.8). Additionally, among the 17% of respondents currently investing in other real assets, average allocation levels are comparable to those for real estate (exhibit 1.9).

infrastructure to-date, appears to have the greatest appeal for public funds, with 18% currently investing and 20% planning to (see exhibit 2.10). Perhaps this is a result of infrastructure’s

real estate-like diversification, inflation-protection and income-producing characteristics and the social and economic (in addi-tion to investment) benefits that states and municipalities may derive from investing in infrastructure.

Our survey indicates that, as in the case of private equity, investors see infrastructure as another way to access growth opportunities in the Asia/Pacific region (exhibit 1.13).

Commodities and other real assets are (as seen in Section 2, below) a clear area of interest for endowments and foundations. Once again, these institutions appear to be leading the way as they search for new sources of alpha, uncorrelated returns, and to preserve the real value of their assets.

See Section 3 for further details by alternative asset category.

Peer PerspectivesThe steady growth trend in alternatives and the decline in more traditional assets are apparent, not only in aggregate, but within specific investor segments—across corporate plans, public funds, endowments and foundations. But these broad allocation shifts, as well as the composition of alternative portfolios, are nuanced by the primary objectives and specific challenges faced by each distinct investor type (exhibits 1.14 – 1.16).


exhIbIt 1.13: AllocAtIons to AsIA/PAcIfIc InfrAstructure Are exPected to IncreAse

Q: Please indicate the percentage of your infrastructure portfolio you currently invest and plan to invest (12 month target) in the following geographic areas (total = 100%). base = those investing or planning to invest in infrastructure. current allocation 36, Planned allocation 42due to small sample size, results should be interpreted directionally only.

Current allocation (%) 12–month target (%)

Other

2 20

10

20

30

40

50

60

70

80

6862

North America

24 24

Europe

612

Asia/Pacific

Perc

ent

corporate (150, 98, 74) (% of respondents)

Public (63, 50, 37) (% of respondents)

e&f (81, 56, 50) (% of respondents)

Primary objective Asset liability (ALM) 47%• Return generation 50%• Return generation 60%•

Return generation 31%• Volatility management 21%• Volatility management 12%•

greatest challenge in managing portfolio assets

Allocation/ALM 20%• Risk/return 22%• Return expectations 23%•

Funding status 16%• Return expectations 14%• Liquidity 16%•

greatest challenge in managing alternative assets

Liquidity 22%• Resources, liquidity, manager selection 14% • Liquidity 28%•

Allocation 14%• Transparency 14%•

exhIbIt 1.14: dIfferences In obJectIVes And chAllenges shAPe InVestMent behAVIors Across InstItutIonAl segMents

Q1: what is the primary portfolio objective driving your asset allocation decisions (check one: return generation, volatility management, asset liability management, protection against inflation, preserving liquidity, other).open-ended questions:Q2: what is the biggest challenge you face when you think about managing your portfolio assets?Q3: what is the biggest challenge you face when you think about managing your portfolio’s alternative asset allocation? respondent base in parenthesis (e.g., 150 corporate plans responded to Q1: “what is your primary objective…?”); due to small sample size, some results should be interpreted directionally only.


corporate plans

Our survey results confirm that the primary objective for corporate plans in managing pension assets is asset/liability management (followed by return generation)—with the great-est challenges revolving around funded status and liquidity concerns (exhibit 1.14).

These objectives and challenges are driven largely by the dual need to meet pension benefit obligations in the long run, while adapting to progressively more stringent funding and account-ing regulations (under the 2006 Pension Protection Act, SFAS 158 and FSP SFAS 132(R)-a), for example) which have short-term implications for managing portfolio assets. These rules


exhIbIt 1.15: the trend towArd AlternAtIVes Is seen Across InVestor segMents

Q: Please indicate your asset allocation as of 12/31/08 as well as your original target weight at that time. Please also indicate what your target allocation is for 12 months from now. (2009 survey)Q: Please indicate your current asset allocation (as of 12/31/09), your target asset allocation (12/31/10) as well as your strategic asset allocation (2 – 3 years out). (2010 survey)note: composition of respondent base varies somewhat between surveys. Average allocations include investors and non-investors.base = total 272; corporate 147; Public 52; endowments/foundations 35, taft-hartley/other 38 (2009 survey)base = total 306; corporate 138; Public 56; endowments/foundations 65; taft-hartley/other 47 (2010 survey)components may not sum to 100% due to rounding. due to small sample size, some results should be interpreted directionally only.

0102030405060708090

100

Perc

ent


51

Spring 2009 survey

Spring 2009 survey

Spring 2009 survey

51

36

10

3

46

40

11

3

45

41

12

2

42

42

14

2

52

31

15

3

52

32

14

2

50

31

18

1

48

30

21

1

54

23

21

3

47

23

26

4

48

22

29

1

46

22

31

1

2009Target

2009Actual

12–monthTarget

Strategic2–3 years

2009Target

2009Actual

12–monthTarget


2009Target

2009Actual

12–monthTarget


Corporate Public Fund Endowment/Foundation

Hedge Funds Private Equity Real Estate Infrastructure Commodities Other Real Assets

0

5

10

15

20

25

30

35

Corporate (138) Public Fund (56) Endowment/Foundation (65)

11.6

6.1

4.2

2.7

26.1

Perc

ent

3.6

3.0

2.6

10.6

Actual2009

4.3

3.3

2.9

12.1

12–monthTarget

4.6

3.5

3.3

13.6


2.6

2.9

5.8

13.7

Actual2009

3.7

3.8

7.5

18.2

12–monthTarget

4.2

4.6

8.1

20.9


Actual2009

12.3

6.6

4.7

3.3

28.8

12–monthTarget

12.6

7.2

5.0

3.4

30.7


exhIbIt 1.16: AlternAtIVes stAcK uP dIfferently Across InVestor segMents

number of respondents in parenthesis. Average allocations include investors and non-investors.


and regulations have increased funding targets, imposed more market-based valuation of assets and liabilities and essen-tially recognized pension funded status on corporate balance sheets—all of which has heightened the need for pension plan CIOs to more carefully manage the volatility of funded status and contributions.

Our findings suggest that the anticipated responses of corporate plans to this two-pronged challenge include steps designed to (a) better match the sensitivity of assets and liabilities to changes in discount rates (e.g., by increasing fixed income allocations and extending duration) and (b) increase diversification and enhance returns (e.g., by increasing allocations to alternatives such as hedge funds, while decreasing traditional equity allocations) (exhibits 1.15 – 1.16).

Public funds

Generating returns is the primary objective for public funds; do-ing so while effectively managing portfolio risk is their greatest challenge. In terms of managing alternative assets, selecting top managers and the resources required for effective due diligence, together with liquidity are principal concerns (exhibit 1.14).

One of the survey’s clearest indications is that public funds are aggressively embracing the use of alternatives in addressing these risk and return challenges. Over a two-to-three year horizon, these investors are expecting to shift from portfolios with over 85% in traditional assets, to a more alpha-focused mix with 21% in strategic allocations to alternatives, funded by decreasing allocations to both equity and fixed income. The percentage of assets allocated to hedge funds and private equity (currently at or below levels for corporate pension plans) are expected to grow at significantly faster rates than for their corporate counterparts. Even real estate, where public fund allocations are already double those of corporate plans, is expected to see substantive increases, as are allocations to other real assets, such as infrastructure (exhibits 1.15 – 1.16).

We see this dichotomy between public and corporate pension plan strategies to be attributable to a number of factors, but primarily to current differences in funding and accounting regula-tions (e.g., less market-oriented valuations of assets and liabili-ties, different smoothing specifications, less emphasis on quarter-to-quarter funded status volatility) which allow public plans to focus more on the long-term objective of meeting benefit obliga-tions and somewhat less on short-term volatility concerns.

Further, the Cost of Living Adjustments (COLAs) embedded in many public pension plans (and less common for corporate plans) are one consideration likely to be driving larger allocations to real assets, given their potential inflation protection benefits.

endowments and foundations

Endowments and foundations manage their portfolios to main-tain current payouts while protecting the real value of assets. Their primary objectives, like those of public funds, are return generation and managing volatility. Liquidity is clearly viewed as a major portfolio management challenge (exhibit 1.14).

With generally fewer investment restrictions than pension plans, endowments and foundations are able to manage assets more opportunistically and have traditionally relied on alternatives, particularly hedge funds, to a much greater extent than have corporate and public pension plans. This more aggressively diversified portfolio allocation profile reflects the so-called “endowment model.” This well-known investment approach is designed to allow alpha opportunities to be exploited while diversifying and protecting portfolios on the downside to enhance returns over the long term. However, in the course of the recent financial crisis, its assumptions regarding the trade-off between liquidity and returns have been brought into question.4

Our survey covers a broad distribution of endowments and foundations, from small to moderately large plans (69% under $1 billion and 29% between $1 billion and $10 billion).5 While in general, their alternative portfolios may not reflect “endow-ment model” proportions, current allocations for E&Fs in our sample are much larger than for corporate and public pen-sion plans of comparable asset size (see Section 2). Addition-ally, E&Fs appear to have embraced other real assets (which we would define as including private partnerships in oil and gas, timber, maritime, water rights, etc.) to a greater extent (exhibit 1.16).


4 For more on the endowment model and incorporating liquidity into asset allocation decisions for E&Fs, see: Defending the ‘Endowment Model’— Quantifying liquidity risk in a post-credit crisis world, J.P. Morgan Asset Management, June 2010.

5 Asset allocation data were provided by 65 endowments and foundations in our survey, including 45 E&Fs with under $1 billion in assets, 19 with between $1 billion and $10 billion, and one with $10+ billion. Due to the small sample size for larger institutions, these results should be interpreted directionally only.


Our detailed analysis by size category found that average allo-cations to alternatives for the larger E&Fs are 44%, increasing to 46% over the next two to three years. Though their growth rate is slow, we see little evidence that liquidity issues are forcing these plans to abandon alternatives. For plans with under $1 billion in assets, alternatives comprise roughly 18% of portfolios, on average, and are expected to increase at a healthy pace, reaching 23% over the next two to three years.

See Section 2 for additional details by investor segment.

conclusionThe recent financial crisis has clearly shaken the confidence of investors but in our survey as well as our continuing conversa-tions with clients, we see resiliency, flexibility and an openness to re-think investment approaches from the inside out. Our survey results indicate a willingness to re-examine pre-crisis target allocations and to understand more completely the alpha, beta and liquidity risk components of their investments. Investors are beginning to think more holistically about their portfolios—viewing hedge fund investments, for example, as a less liquid, unconstrained extension of traditional equity and fixed income allocations. In their open-ended survey responses we see a desire: to better understand “total plan character-istics and risk” and the economic sensitivities of individual investments; to “incorporate liquidity into asset allocation models,” and to manage “downside” or “left-tail” risks.

These findings indicate to us a renewed commitment to alter-natives as investors continue to fine-tune their strategies and frameworks for optimizing portfolio risk/return and liquidity trade-offs. We believe the increasing innovation within alterna-tives and the expanding global dimension of these investment opportunities, as well as industry and regulatory responses to investors’ demands for improved transparency, will lend sup-port to these trends.

We hope this research can offer a valuable perspective to investors on how others, inside and outside their industry seg-ments, are responding to a challenging and changing invest-ment environment. At the same time, we recognize that each investor is unique in their needs, objectives and constraints and we remain committed to partnering with them as they continue to define the evolving role of alternatives within their own investment strategies.



2 . I n V e s t o r s e g M e n t s A d d I t I o n A l d e t A I l s

Specifically, the following analysis looks at alternative asset allocations by size category within these investor segments. Our research also takes a closer look at where growth in alternatives is coming from: an increase in allocations among those already investing, an increase in the investor base (i.e., participation rates) or some combination of these factors.

We believe this additional investor segment analysis offers further insight into our survey results and may provide investors with the basis for a more “customized” peer group comparison, given their portfolio size. However, due to the small number of respondents within some segment/size categories, these results should be interpreted directionally only.

t h i s s e c t i o n p r o v i d e s a d d i t i o n a l a n a l y s i s b y i n v e s t o r s e g m e n t f o r :

Corporate plans•

Public funds•

Endowments and foundations•


corporate Pension Plans

regulatory and accounting constraints are driving pension portfolio allocations for corporate plans, both large and small

While return generation is of critical importance in meeting corporate plans’ long-term benefit obligations, evolving regula-tory and accounting reforms (which require a greater focus on managing the volatility of funded status, contributions and

I n V e s t o r s e g M e n t s

their impact on corporate financial statements in the nearer term), have helped make asset liability management (ALM) the primary objective for corporate plans.

Corporate plans, regardless of size, appear to be responding to these dual objectives by (exhibits 2.1 – 2.2):

Increasing fixed income allocations and extending duration •to better match assets and liabilities

Increasing alternatives to enhance returns and diversify risk•

Decreasing traditional equity allocations•

Larger plans already exhibit these allocation shifts, with greater allocations to alternatives, while smaller plans appear to be running harder to catch up.

There is also a fair amount of consistency in the composition of alternative portfolios across plans varying in size (exhibit 2.3).

exhIbIt 2.1: A Much lArger ProPortIon of corPorAte (Vs. PublIc) PlAns Are extendIng durAtIon

0 20 40 60 80 100% of respondents

�

�

�

TotalPublic

$10bn +

$1 bn to<$10bn

Less than$1bn

TotalCorporate

17 67 16

41 47 12

43 44 13

38 49 13

41 46 13

Corp

orat

e

Increase No change Decrease

Q: Please indicate whether you plan to increase or decrease the duration of your overall portfolio over the next 12 months.base = total corporate 138; <$1bn 53, $1bn-<$10bn 68, $10bn+ 17; total Public 63

exhIbIt 2.3: consIstency Across PlAn sIze In AlternAtIVe PortfolIo coMPosItIon

Hedge Funds Private Equity Real Estate

Infrastructure Commodities Other Real Assets

TotalCorporates (138)

Perc

ent

Less than$1bn (53)

$1bn to lessthan $10bn (68)

More than$10bn (17)

Actual2009

3.6

3.0

2.6

10.6

Strategic (2−3 years)

4.6

3.5

3.3

13.6

Actual2009

2.8

1.7

2.3

1.38.5

Strategic(2−3 years)

3.4

2.3

3.3

1.111.5

Actual2009

4.1

3.6

2.5

11.3


5.3

4.2

3.2

14.5

Actual2009

4.3

4.8

3.4

1.1

14.2


5.8

4.1

3.8

1.2

15.9

0

2

4

6

8

10

12

14

16

18

Q: Please indicate your current asset allocation (as of 12/31/09)…as well as your strategic asset allocation (2-3 years out).respondent base is in parenthesis. Average allocations include investors and non-investors. due to small sample size, some results should be interpreted directionally only.note: Question applies to exhibits 2.2 – 2.6.

exhIbIt 2.2: corPorAte PlAns, both lArge And sMAll, Are IncreAsIng AlternAtIVes And fIxed IncoMe AllocAtIons

0102030405060708090

100

47

39

11

Actual2009

35

49

14

Actual2009

32

51

16


43

42

14


Perc

ent

Actual2009

46

40

11


42

42

14

Actual2009

49

39

9


45

41

12


Total Corporates (138)

Less than $1bn (53)

$1bn to less than $10bn (68)

More than$10bn (17)


i N v e S T o R S e g M e N T S

slow and steady growth across alternative assets

hedge funds

Hedge funds are, on average, the largest component of corporate plans’ alternative portfolios, with a roughly 40% share. The largest plans are an exception, with private equity exceeding hedge funds currently, but not in two to three years (exhibit 2.3).

Participation rates, above those for public plans, remain con-siderably below levels for endowments and are expected to increase modestly, from 41% to 46% (exhibit 2.4). The 41% currently investing in hedge funds anticipate a significant increase in allocations (from 8.8% to 10.0%, exhibit 2.5).

Private equity

A greater proportion of corporate plans currently invest in private equity (PE) than in any other alternative category, though the real estate investor base could surpass it going forward (exhibit 2.4). The majority (56%) see an improving outlook for PE over the next 12 months; roughly two-thirds of existing investors intend to increase or maintain allocations (exhibit 2.6) and 25% have made secondary market pur-chases over the past year with 11% planning to do so in the future (see exhibit 1.11). However, perhaps reflecting liquid-ity concerns, 36% plan to decrease private equity allocations over the next two to three years (exhibit 2.6).

real estate

Among corporate plans, real estate allocations are smaller than private equity or hedge fund allocations (except for plans under $1 billion in AUM), and are expected to see a notable increase (exhibit 2.3). Roughly 50% of corporate plans currently invest in real estate, while an additional 12% are planning to (exhibit 2.4). This is in sharp contrast to pub-lic fund counterparts, where the vast majority already invest.

other alternatives

Infrastructure, commodities and other real assets currently account for a little over 1% of corporate pension portfolios, with strategic allocations set at approximately 2% (exhibit 2.3). However, participation rates, particularly for infrastruc-ture and commodities, could see substantial increases from their currently small bases (exhibit 2.4).

exhIbIt 2.4: PercentAge of corPorAte PlAns currently InVestIng or PlAnnIng to InVest In…

% investing % planing to

41

5

HedgeFunds

52

4

PrivateEquity

49

12

RealEstate

6

8

Infrastructure

11

9

Commodities

Perc

ent

12

1

OtherReal Assets

base = 138 corporate plans.

exhIbIt 2.6: PercentAge of corPorAte PlAns currently InVestIng In And PlAnnIng to IncreAse/decreAse AllocAtIons to…

32

49

19

Hedge Funds (57)

31

33

36

Private Equity (72)

40

37

23

Real Estate (68)

Perc

ent

% no change% increasing % decreasing

number of corporate plans currently investing is in parenthesis.

exhIbIt 2.5: AVerAge PercentAge AllocAtIons Across corPorAte PlAns currently InVestIng In…


Hedge Funds (57)

8.8

10.0

Private Equity (72)

5.86.3

Real Estate (68)

Perc

ent 5.2

5.6

number of corporate plans currently investing is in parenthesis.


Public Pension funds

significantly underfunded and less constrained by regulatory and accounting rules than corporate plans, public funds of all sizes are rapidly expanding the role of alternatives in their portfolios.

Public funds’ primary portfolio objective is return generation and their greatest challenge is managing risk while generating returns. Recognizing diversification and return enhancement as among the greatest advantages of alternatives, these plans are moving from the traditional to the alternative more aggres-sively than any other segment (see exhibits 1.15 and 2.7):

Overall trends are similar across size categories (exhibit 2.8):

Increasing alternatives •

Decreasing traditional equity • and fixed income

But the smallest plans are increasing alternatives from 11% to 18% (an increase of over 60%, faster than the average of 50% across public funds as a whole).

Public funds are cognizant of the challenges of an increased reliance on alternatives: liquidity, fees, transparency, the need for careful manager selection and the demand on internal resources (exhibit 2.7), but…

The need for return is paramount. State plans alone are con-fronting a half-trillion dollar pension gap; it will take several years of returns in excess of the 8% assumption commonly used by public funds to make up for the 25% decline in invest-ment assets suffered by these plans in 2008.1


1 The trillion dollar gap: Underfunded state retirement systems and the roads to reform, The Pew Center on the States, February 2010.

exhIbIt 2.9: rAPId growth Across All AlternAtIVe cAtegorIes

0

5

10

15

20

25

30

2.6

2.9

5.8

13.7

Actual2009

4.2

4.6

8.1

20.9


3.0

5.2

11.2

Actual2009

2.8

3.7

5.5

14.4

Actual2009

4.6

3.2

7.2

2.7

18.5


4.1

5.0

7.9

21.1


4.3

7.8

17.0

Actual2009

3.5

6.4

10.0

3.0

24.9


TotalPublic (56)

Less than$1bn (20)

$1bn to lessthan $10bn (25)

More than$10bn (11)

Perc

ent

Hedge Funds Private Equity Real Estate

Infrastructure Commodities Other Real Assets

2.11.7

Q: Please indicate your current asset allocation (as of 12/31/09)…as well as your strategic asset allocation (2-3 years out).respondent base is in parenthesis. Average allocations include investors and non-investors. due to small sample size, some results should be interpreted directionally only. note: Question applies to exhibits 2.8 – 2.12.

exhIbIt 2.8: PublIc funds, regArdless of sIze, Are AggressIVely eMbrAcIng AlternAtIVes

0102030405060708090

100

Perc

ent


Total Public (56)

Less than $1bn (20)


More than$10bn (11)

Actual2009

52

32

14


48

30

21

Actual2009

50

37

11


48

32

18

Actual2009

55

29

14


51

28

21

Actual2009

49

32

17


43

30

25

exhIbIt 2.7: how PublIc funds VIew AlternAtIVes

base = Public funds 63; Investing/planning to invest in hedge funds 28; in Private equity 41; in real estate 58.results shown, in general, only for responses mentioned by at least 50% or respondents. due to small sample size, some results should be viewed directionally only.

Alternative greatest Advantages (% of respondents)


Hedge funds Diversification 86%• Fees 79%•

Returns 61%• Transparency 61%•

Liquidity 54%•

Private equity Returns 100%• Liquidity 80%•

Diversification 76%• Fees 76%•

Real estate Diversification 74%• Liquidity 72%•

Inflation protection 74%•

Return 57%•


dynamic growth across alternative categories

Public funds, in addition to having the fastest expected growth in total alternative allocations among institutional segments, also have the fastest growing hedge fund, private equity and real estate allocations (see exhibits 1.16 and 2.9).

hedge funds

Within public fund portfolios, hedge funds are set to outpace real estate (and marginally, private equity), driven by increases in both the relatively small investor base (30% currently invest and an additional 16% plan to, exhibit 2.10) and in allocations among existing investors (from 8.6% to 10.5%, exhibit 2.11).

Private equity

Among public funds, 73% see an improving outlook for private equity over the next 12 months (higher than for any other alternative asset class). Growth will come from an increase in participation rates and current investor allocations (exhibits 2.10 – 2.11). In addition, roughly half of public funds investing in PE have purchased or plan to purchase PE interests on the secondary market (see exhibit 1.11).

real estate

Almost all public funds (89%) invest in real estate, which accounts for roughly 40% of their alternative allocations (exhibits 2.9 – 2.10) and is highly valued for its diversification and inflation protection characteristics. Despite these sizable allocations to real estate, average allocations are currently below strategic targets and 90% of existing investors plan to expand (68%) or maintain (22%) existing allocations. Just 10% anticipate a decrease in real estate allocations—the smallest per-centage across major alternative asset categories (exhibit 2.12).

other alternatives

Public funds are leading the way in infrastructure investing, with 18% currently investing and another 20% planning to. The combined allocation to other alternative assets (infrastructure, commodities and other real assets) is expected to increase from 2.4% to 4.0%, again the fastest growth rate among institutional segments (exhibit 2.9). Participation rates are expected to nearly double for commodities and more than double for infra-structure and other real assets (exhibit 2.10).


exhIbIt 2.10: PercentAge of PublIc funds currently InVestIng or PlAnnIng to InVest In…

% investing

Perc

ent

% planning to

30

16

HedgeFunds

55

16

PrivateEquity

89

5

RealEstate

14

13

Commodities

18

20

Infrastructure

9

14

OtherReal Assets

base = 56 public funds.

exhIbIt 2.12: PercentAge of PublIc funds currently InVestIng In And PlAnnIng to IncreAse/decreAse AllocAtIons to…

18

59

23

Hedge Funds (17)

16

65

19

Private Equity (31)

22

68

10

Real Estate (50)


Perc

ent

number of public funds currently investing is in parenthesis.

exhIbIt 2.11: AVerAge PercentAge AllocAtIons Across PublIc funds currently InVestIng In…

Hedge Funds (17)

Perc

ent

Private Equity (31) Real Estate (50)


8.6

10.5

5.2

6.6 6.5

8.6

base = 56 public funds; number of public funds currently investing is in parenthesis.



endowments and foundations

“Optimizing returns and diversification, while still being able to provide liquidity” is one respondent’s summary of the primary objective and greatest challenge for endowments and foundations.

While liquidity is clearly the greatest challenge for E&Fs in managing alternative assets, comments provided within our survey indicate E&Fs are bringing a sharper focus to “the il-liquidity premium [and ensuring that it] properly compensates investors for longer lockups, less control and higher fees.”

Despite their concerns, overall, E&Fs are modestly increas-ing (and among smaller institutions, more rapidly expanding) the substantial role alternatives play within their portfolios (exhibit 2.14).

For E&Fs with under $1 billion in AUM (roughly 70% of our sample):

Allocations to cash were relatively high at year-end 2009, •most likely reflecting liquidity concerns and anticipated outflows, but are expected to be drawn down over a two to three year horizon.

Alternatives account for almost 18% of portfolio assets, •increasing to over 23%—roughly twice the size of allocations for corporate plans of the same size.

For E&Fs with $1 billion to $10 billion in AUM (roughly 30% of our sample)

Alternative allocations are twice that of smaller E&Fs (and •four times that of corporate plans in this size category). Growth in alternatives is continuing at a modest pace (44% to 46%), as equity allocations decline.

Growth and diversification are expected to come from real •assets (infrastructure, commodities and other) and to a lesser extent, from real estate (exhibit 2.15).

exhIbIt 2.13: how endowMents And foundAtIons VIew AlternAtIVes

Alternatives greatest Advantages (% of respondents)


Hedge funds Diversification 68%• Transparency 73%•

Returns 60%• Fee 73%•

Liquidity 68%•

Private equity Returns 93%• Liquidity 90%•

Diversification 66%• Fees 72%•

Top manager access 52%•

Real estate Diversification 90%• Liquidity 85%•

Inflation protection 67%• Fees 55%•

Returns 63%•

base = endowments/foundations 65; Investing/planning to invest in hedge funds 63, in Private equity 61, in real estate 60.

exhIbIt 2.15: A drAMAtIc dIfference In sIze of AlternAtIVe AllocAtIons for sMAll And lArge e&fs

0

10

20

30

40

50

Total Endowments/Foundations (65)

Less than $1bn (45)


11.6

6.1

4.2

2.726.1

Actual2009

12.6

7.2

5.0

3.430.7

Strategic (2−3 years)

8.7

3.6

17.8

Actual2009

10.4

5.23.1

23.5


17.6

11.6

8.5

4.744.2

Actual2009

17.1

11.7

8.9

5.2


46.1

Hedge Funds Private Equity Real EstateInfrastructure Commodities Other Real Assets

Perc

ent

Q: Please indicate your current asset allocation (as of 12/31/09) …as well as your strategic asset allocation (2-3 years out).respondent base is in parenthesis. Average allocations include investors and non-investors. one endowment/foundation with over $10 billion in assets not shown. due to small sample size, some results should be interpreted directionally only.note: Question applies to exhibits 2.14 – 2.18.

exhIbIt 2.14: the ‘endowMent Model’ contInues to thrIVe

Actual2009

47

23

26


46

22

31

Actual2009

39

15

44


37

15

46

Total Endowments/Foundations (65)

Actual2009

51

26

18


50

25

23

Less than $1bn (45)


0102030405060708090

100

Perc

ent




diversification into ‘other alternatives’

hedge funds

Hedge funds represent approximately 40% of E&Fs’ alternative allocations (12% of total portfolio assets, exhibit 2.15). With 72% of E&Fs already investing at average allocations of 16%, moderate growth rates are expected (exhibits 2.16 – 2.17).

A large majority plan to maintain or increase hedge fund alloca-tions (74%); the 26% planning to decrease are primarily larger E&Fs with current allocations of 20% or more (exhibit 2.18).

Private equity

On average, private equity is the second largest alternative allocation for E&Fs (roughly 6% of overall portfolio assets). Allocations are below strategic targets for smaller plans and on average, “about right” for larger plans (exhibit 2.15). Here too, our analysis finds some large plans (primarily those with PE allocations above 15%) planning to trim back (exhibit 2.18).

E&Fs are diversified in their private equity investments. Ap-proximately 80% of those investing or planning to invest in PE invest in buyouts, growth equity, turnaround/distressed opportunities and/or venture capital (see exhibit 3.3).

real estate

Real estate plays an important role for E&Fs as a portfolio diversifier and in protecting the real value of assets. Most E&Fs access real estate through commingled closed-end (vs. open-end), funds which may indicate investment in more opportunis-tic strategies, generally offered in closed-end form.

other alternatives

E&Fs, in their search to diversify alpha and hedge inflation, have taken the lead in commodities and other real assets, where participation rates far exceed those of corporate or public plans. Growth in commodities (from new investors), and other real assets (from existing investors) is expected (exhibits 2.16 – 2.17).

exhIbIt 2.16: PercentAge of endowMents And foundAtIons currently InVestIng or PlAnnIng to InVest In…

% investing % planning to

72

5

HedgeFunds

63

6

PrivateEquity

62

8

RealEstate

5

Infrastructure

26

12

Commodities

38

OtherReal Assets

2

2

Perc

ent

base = 65 endowments/foundations.

exhIbIt 2.18: PercentAge of endowMents And foundAtIons currently InVestIng In And PlAnnIng to IncreAse/decreAse AllocAtIons to…

-40

-20

0

20

40

60

80

100

34

40

26

Hedge Funds (47)

29

49

22

Private Equity (41)

40

45

15

Real Estate (40)


Perc

ent

number of endowments/foundations currently investing is in parenthesis.

exhIbIt 2.17: AVerAge PercentAge AllocAtIons Across endowMents And foundAtIons currently InVestIng

Actual 2009 Strategic (2–3 years)16.1

16.8

Hedge Funds (47)

9.610.7

Private Equity (41)

6.87.5

Real Estate (40)

4.8 4.8

Commodities(17)

7.18.5

Other Real Assets (25)

Perc

ent

number of endowments/foundations currently investing is in parenthesis.due to small sample size, some results should be interpreted directionally only.


3 . A l t e r n A t I V e s t r A t e g I e sA d d I t I o n A l d e t A I l s

h a v i n g e x a m i n e d t h e o b j e c t i v e s and challenges faced by different investor segments and how

they are each planning to expand the role of alternatives in their portfolios, our report concludes with a note on

implementation. This final section presents findings on how survey participants are accessing hedge funds, private

equity and real assets, with some additional insights on the types of strategies they are using or exploring within

these alternative categories.

hedge funds

Advisory support

The majority of those investing or planning to invest in hedge funds rely on generalist investment consultants. Not surpris-ingly, smaller firms are more likely to use an external consul-tant while larger firms with the required economies of scale are more likely to rely on internal resources.

exhIbIt 3.1: Most InVestors rely on generAlIst consultAnts for hedge fund InVestMent AdVIce

0 10 20 30 40 50 60 70 80 90

36

17Other

Less than $1 billion $1 billion to <$10 billion $10 billion +

8150

17

A generalinvestmentconsultant

1927

21

A Hedge Fundspecialist

consultantor advisor

1327

50

We do notuse external

resources

% of respondents

Q: what resources does your organization use to help make decisions regarding your hedge fund investments? (check all that apply.)base = less than $1 billion 77, $1 billion to <$10 billion 90, $10 billion +24


A L T e R N A T i v e S T R A T e g i e S

Access

Similarly, smaller institutions are more likely to access hedge funds through multi-strategy funds of funds while larger institutions appear to favor the single manager approach. How-ever, even among mid- to large size institutions in our survey, roughly half invest or plan to invest in funds of funds. Experi-enced funds of funds managers with well-established industry relationships can help to provide expert due diligence and access to a broadly diversified set of high quality managers.

It is interesting to note that single strategy funds of funds have the least appeal across investors of all sizes. This suggests that perhaps investors who decide to invest in a single strategy feel that they are capable of choosing and monitoring a few strategy-specific managers on their own—rather than taking the specialized funds-of-funds approach.

Private equity

strategies

The largest percentage of those investing or planning to invest in private equity invest in buyouts—not surprising given the size of these deals and of this market as a whole. For corporations, investing in buyouts is a natural extension of their M&A activity. For large public funds, buyouts can provide an opportunity to put a sizable amount of private equity dollars to work—generally in established businesses for which due diligence information is relatively accessible. However, results suggest that as public funds expand alloca-tions to private equity overall, they are planning to extend into other categories (turnaround/distressed, growth equity and venture capital) as well.

E&Fs have the largest percentage of venture capital inves-tors, perhaps due to the fact that many of the business ideas underlying these investment opportunities have their roots in the university environment. E&Fs appear to be the most diversified PE investors, with at least 80% investing in any given category.

exhIbIt 3.2: how InVestors Access hedge funds VArIes by the InstItutIon’s sIze (AuM)

0 10 20 30 40 50 60 70 80 90 100

Less than $1 bn$1 bn to <$10 bn

$10 bn +Fund

of

fund

s/si

ngle

stra

tegy 19

1621

6134

7571

75


$10 bn +Fund

of

fund

s/m

ulti

stra

tegy 68

5046

109

8

2241

46


$10 bn +Sing

lem

anag

er/

mul

tist

rate

gy 2748

6315

8

6037

29

13


$10 bn +Sing

lem

anag

er/

sing

lest

rate

gy 2646

75

915

8

6539

17

% of respondents

Currently invest Plan to invest No plan to invest

Q: Please indicate how your portfolio currently accesses or plans to access hedge funds.base = less than $1 billion 77, $1 billion to <$10 billion 90, $10 billion +24

exhIbIt 3.3: there Are soMe dIfferences In tyPe And dIVersIty of PrIVAte eQuIty InVestMents Across InVestor segMents

% of respondents


CorporatePublic Fund

E&FsBuyo

uts 75

80 80

6 15

5

19 5

15


E&FsGrow

theq

uity 62

65 80

5 15

5

33 20

15


E&FsTurn

-ar

ound

s/d

is-

tres

sed 65

65 80

12 20

7

23 15 13


E&FsVent

ure

capi

tal 63

65 82

10 15

5

27 20

13


E&FsOth

er 27 24

36

6 17

67 59

61

0 10 20 30 40 50 60 70 80 90 100

Q: you indicated that you currently own or plan to invest in private equity. Please indicate whether these are or will be buyouts, growth equity...base = corporate 84; Public 41; endowment/foundation 61


Access

As in the case of multi-strategy hedge funds of funds, smaller institutions prefer to invest in generalist/global private equity funds of funds, a convenient way to establish a diversified private equity portfolio—provided the funds of funds manager has the global reach, relationships and expertise to identify and invest in top performing managers.

Specialized funds of funds—and even more so, separate ac-counts—are most appealing to larger institutional investors. However, the differences in usage across institutions vary-ing in size are not dramatic. We see this as reflective of two industry trends: greater geographic and sector specialization among funds of funds managers and an increasing demand for separate accounts—perhaps driven by a greater desire for more detailed access to information on portfolio companies and more input on portfolio exposures.

real estate/Infrastructure

Access—real estate

The majority of those investing or planning to invest in the private real estate market do so through commingled funds—either closed- or open-end. Public funds are more likely to use open-end funds (the vehicle available for most core strategies, which ac-count for a large share of public fund investments) while E&Fs are more likely to use closed-end funds (the vehicle typically available for more opportunistic strategies) (exhibit 3.5).

A l t e r n A t I V e s t r A t e g I e s

Not surprisingly, it is the largest firms that are the most likely to access real estate through direct investments (exhibit 3.6).

A significant percentage of investors (approximately 40% or more across investor segment and size categories) invest in the public REITs market. While REITs tend to behave like equities in the short term, over long-term holding periods they have the potential to provide real estate-like total returns. Additionally, they are more liquid, allowing for tactical investments as well as rebalancing, and the global REITs market is now developed sufficiently to help institutions achieve a depth and breadth of global real estate diversification.

exhIbIt 3.5: how InVestors Access reAl estAte VArIes soMewhAt Across InVestor segMents

0 10 20 30 40 50 60 70 80 90 100 % of respondants

Public FundE&Fs

Corporate

REIT

s 41 43

47

11 7

15

48 50

38

Public FundE&Fs

Corporate

Dire

ctIn

vest

-m

ents 30

36 25

66 60 70

Public FundE&Fs

Corporate

Com

-m

ingl

edFu

nd(o

pen-

end) 45

69 35

9 9

13

46 22

52

Public FundE&Fs

Corporate

Com

-m

ingl

edFu

nd(c

lose

d-e

nd) 42

48 55

11 9

13

47 43

32


Q: Please indicate how your portfolio currently accesses or plans to access real estate. base = corporate 92; Public 58; endowments/foundations 60

exhIbIt 3.6: lArger InVestors Are More lIKely to InVest In dIrect reAl estAte InVestMents

0 10 20 30 40 50 60 70 80 90 100


% of respondents

42 39

53

44 50

41

14 11

6


$10 bn +REIT

s

15 32

68

80 62

29 6

5 Less than $1 bn$1 bn to <$10 bn

$10 bn +Dire

ctIn

vest

-m

ents

40 53 56

12 10

48 37

44


$10 bn +Com

-m

ingl

edFu

nd(o

pen-

end)

38 53

59

10 12

9

52 35 32


$10 bn +Com

-m

ingl

edFu

nd(c

lose

d-e

nd)

Q: Please indicate how your portfolio currently accesses or plans to access real estate. base = less than $1billion 97, $1billion to <$10billion 117, $10billion+ 34. due to small sample size, some results should be interpreted directionally only.

exhIbIt 3.4: lArger fIrMs Are More lIKely to InVest In PrIVAte eQuIty through sePArAte Accounts, but one thIrd of sMAller fIrMs use theM As well.

0 20 3010 40 50 60 70 80 90 100 % of respondents

Less than $1 bn

$1 bn to <$10 bn

$10 bn +Gen

eral

ist/

glob

al fu

nd o

f fun

ds 59

43

49

10

8

31

49

48

Less than $1 bn

$1 bn to <$10 bn

$10 bn +Sect

or o

r ge

ogra

phic

ally

focu

sed

fund

of fu

nds 33

43

49

9

8

6

58

49

45

Less than $1 bn

$1 bn to <$10 bn

$10 bn +Sepa

rate

acco

unt 32

37

49

7

11

61

60

40


Q: Please indicate how your portfolio currently accesses or plans to access private equity.base = less than $1 billion 69, $1 billion to <$10 billion 107, $10 billion +35


A L T e R N A T i v e S T R A T e g i e S

real estate portfolios

Real estate investors continue to invest primarily in domestic markets, with modest growth indicated for Europe and Asia/Pacific (exhibit 3.7).

On average, half of real estate assets are invested in core strategies, with the balance spread across more value-added/opportunistic strategies (exhibit 3.8).

Access—Infrastructure

The majority of those investing or planning to invest in infra-structure invest or plan to do so through closed-end funds—the form in which these strategies are most commonly available. However, open-end funds appear poised for significant growth.

exhIbIt 3.7: reAl estAte PortfolIos contInue to be doMInAted by doMestIc InVestMents

86

7 5 2

83

9 6 30

10

20

30

40

50

60

70

80

90

100

North America Europe Asia/Pacific Other

Current allocation (%) 12−month target (%)

Perc

ent

Q: Please indicate the percentage of your real estate portfolio you currently invest and plan to invest over the next 12 months in the following geographic areas (total=100% ).base = current allocations 188, Planned allocations 162components may not sum to 100% due to rounding.

exhIbIt 3.9: closed-end funds Are the PrIMAry VehIcle for InVestIng In InfrAstructure, wIth deMAnd for oPen-end funds exPected to IncreAse

14

8

46

13

10

11

28

27

76

80

25

61

0 10 20 30 40 50 60 70 80 90 100

Direct investments

Listed infrastructuresecurities

Closed-end funds

Open-end funds


% of respondents

Q:Please indicate how your portfolio currently accesses or plans to access infrastructure.base = 71totals may not sum to 100% due to rounding.

exhIbIt 3.8: core strAtegIes Account for the lArgest slIce of reAl estAte PortfolIos, wIth lIttle chAnge exPected

0

10

20

30

40

50

6052 52

Core

11 12

Core Plus

19 19

Value Added

18 17

Opportunistic

Current allocation (%) 12−month target (%)

Perc

ent

Q: Please indicate the percentage or your real estate portfolio you currently invest and plan to invest in the following …(total=100%).base = current allocations 176, Planned allocations 155


A c K n o w l e d g e M e n t s

J . P. M o r g a n A s s e t M a n a g e m e n t w o u l d l i k e t o t h a n k all 349 investors and the 325 institutions they represent for responding to our survey. Without their participation, this report would not have been possible. The following participating institutions generously agreed to have their names listed in this report.

3M Company

AARP

Aetna, Inc.

Affiliated Distributors

Air Products & Chemicals, Inc.

Alberta Investment Management Corporation

Alexian Brothers Health System Incorporated

Allina Health System Incorporated

Alstom Power Inc.

American Airlines

American Civil Liberties Union Foundation, Inc.

American Electric Power Company Incorporated

American Hospital Association

Ancilla Systems Inc.

Arch Coal, Inc.

Austin Presbyterian Theological Seminary

Barnes Group Inc.

BASF Corp.

Baystate Health, Inc.

Beneficial Financial Group

Bloomfield Township Board of Education

Building Trades United Pension Trust Fund, Milwaukee & Vicinity

CAAT Pension Plan

Callan Associates, Inc.

Carleton College

Central Vermont Public Service Corporation

Chicago Policemen’s Annuity & Benefit Fund

Christian Church Foundation

City of Baton Rouge Employees’ Retirement System

City of Clearwater

City of Gainesville, Georgia

City of Little Rock, Arkansas

City of Miami Firefighters & Police Officers Retirement Trust

City of Milwaukee Employees’ Retirement System

City of Phoenix Employees’ Retirement System

City of Regina Civic Employees Superannuation and Benefit Plan

Consolidated Edison Company of New York, Inc.

Cooper Tire & Rubber Company

Cox Enterprises, Inc.

Dalhousie University

Delta Bank and Trust Company, Grand Cayman

Desjardins Group Pension Fund

Diebold, Inc.

Doris Duke Charitable Foundation

Electrical Workers’ Pension Trust Fund

Equifax Inc.

Ethel & James Flinn Foundation

Fairfield County Community Foundation, Inc.

FirstEnergy Corp.

Fortune Brands, Inc.

Foundation Western

Frontier Communications

Girl Scouts of the USA

Goodyear Canada Inc.

Granite Hall Partners

Guest House Inc.

GuideStone Financial Services of the Southern Baptist Convention

Haverford College

Hormel Foods Corp.

Idaho Endowment Fund Investment Board


IWA Forest Industry Pension Plan

J. Paul Getty Trust

Johns Hopkins University

Jules and Paul-Emile Leger Foundation

Kansas City Police Retirement System

Kent County Employees Retirement Plan

Los Angeles County Deferred Compensation and Thrift Plan

Louisiana School Employees’ Retirement System

Marshall and Ilsley Trust Company

McGregor Fund

Medica Health Plans

Memorial Health System

Merchants Mutual Insurance Company

Merck & Co., Inc.

Meriter Health Services

Metropolitan Employee Benefit System

MillerCoors LLC

National Grid

National Integrated Group Pension Plan

Nebraska Methodist Health System, Inc.

Nelda C. & H.J. Lutcher Stark Foundation

Nevada Public Employees Retirement System

New York State Insurance Fund

New York State Teachers’ Retirement System

Northeast Health

Oakwood Health Service Corporation

Ohio Laborers District Council

Oklahoma Firefighters Pension

Omaha Civilian Pension System

Omaha School Emloyees’ Retirement System

Orange County Employees Retirement System

Palos Community Hospital

Parochial Employees’ Retirement System of Louisiana

Pennsylvania State University

Pittsburgh Symphony Society

Power Corporation Superannuation Fund

Principia Corporation

Régime de retraite de l’Université du Québec

Renaissance Re Holdings Ltd.

Rotary International

San Bernardino County Employees’ Retirement Association

Scripps Health

Sentry Life Insurance Company

South Carolina Retirement System

Southern Oklahoma Memorial Foundation

St. Louis Police Retirement System

St. Olaf College

A C K N o w L e d g e M e N T S

Texas A&M Foundation

The American University in Cairo

The Dow Chemical Company

The Maclellan Foundation, Inc.

The Pittsburgh Foundation

The Rockefeller University

The Skillman Foundation

The United Methodist Church

The Wallace Foundation

Toshiba America, Inc.

Trinity Health

UBC Investment Management Trust Inc.

United Food & Commercial Workers Pension Fund

University de Montréal Pension Fund

University Hospitals Health Systems, Inc.

University of Alberta

University of Guelph

University of Virginia Investment Management Company

US Bancorp

University of Western Ontario

Verizon Investment Management Corp.

Virginia Retirement System

Warnaco Incorporated

Washington Suburban Sanitary Commission

Washington University

Wayne State University

Winnipeg Civic Employee Benefits Program


AdVIsor

Annette whittemoreHead of Market Research and Development

Barbara HeubelSenior WriterInstitutional Marketing

Karin franceries, CfAVice PresidentStrategic Investment Advisory Group

Authors

foR QUALified PURCHASeRS oNLy. This presentation has been prepared for persons who qualify to invest in private equity investments as mentioned in this presentation. generally they would include persons who are “Qualified Purchasers” for the purpose of the investment Company Act of 1940 and “Accredited investors” for the purpose of the Securities Act of 1933. The presentation is confidential and may not be reproduced or used as sales literature with members of the general public.

This document is intended solely to report on various investment views held by J.P. Morgan Asset Management. Opinions, estimates, forecasts, and statements of finan-cial market trends that are based on current market conditions constitute our judgment and are subject to change without notice. We believe the information provided here is reliable but should not be assumed to be accurate or complete. The views and strategies described may not be suitable for all investors. References to specific securities, asset classes and financial markets are for illustrative purposes only and are not intended to be, and should not be interpreted as, recommendations. Indices do not include fees or operating expenses and are not available for actual investment. The information contained herein employs proprietary projections of expected return as well as estimates of their future volatility. The relative relationships and forecasts contained herein are based upon proprietary research and are developed through analysis of historical data and capital markets theory. These estimates have certain inherent limitations, and unlike an actual performance record, they do not reflect actual trading, liquidity constraints, fees or other costs. References to future net returns are not promises or even estimates of actual returns a client portfolio may achieve. The forecasts contained herein are for illustrative purposes only and are not to be relied upon as advice or interpreted as a recommendation.

Arbitrage strategies are highly complex. Such trading strategies are dependent upon various computer and telecommunications technologies and upon adequate liquidity in markets traded. The successful execution of these strategies could be severely compromised by, among other things, illiquidity of the markets traded. These strategies are dependent on historical correlations that may not always be true and may result in losses.

Investors should consider a hedge fund investment a supplement to an overall investment program and should invest only if they are willing to undertake the risks involved. A hedge fund investment will involve significant risks such as illiquidity and a long-term investment commitment.

Private equity investments may be illiquid, present significant risks, and may be sold or redeemed at more or less than the original amount invested. The value of invest-ments and the income from them may fluctuate and your investment is not guaranteed. Past performance is no guarantee of future results.

Real estate and infrastructure investing may be subject to a higher degree of market risk because of concentration in a specific industry, sector or geographical sector. Real estate and infrastructure investing may be subject to risks including, but not limited to, declines in the value of real estate, risks related to general and economic conditions, changes in the value of the underlying property owned by the trust and defaults by borrower.

J.P. Morgan Asset Management is the marketing name for the asset management businesses of JPMorgan Chase & Co. Those businesses include, but are not limited to, J.P. Morgan Investment Management Inc., Security Capital Research & Management Incorporated and J.P. Morgan Alternative Asset Management Inc.

270 Park Avenue, New York, NY 10017

© 2010 JPMorgan Chase & Co. | Alternative Survey_Executive Summary

jpmorgan.com/institutional

J . P. M o r g A n A s s e t M A n A g e M e n t

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