Uwe Fleischhauer (pictured), founding partner and managing director of German alternative investment manager Yielco Investments GmbH comments on the opportunities of real assets as alternatives to fixed income.
What are the opportunities in alternative asset classes, especially areas such as water and agriculture, considering concerns over values of traditional assets?
Institutional investors across the globe are increasingly recognising the need to adjust their asset allocations in order to future-proof their portfolios. Fixed income accounts for the largest share of institutional investors’ portfolios by far. However, the zero interest rate policies of central banks and associated low yields mean that many institutional investors are in search of alternatives to in order to ensure a steady flowsof payments.
The 2008 economic crisis and the the subsequent years of historically low interest rates have reshaped the global financial landscape. A potential upcoming rise in interest rates together with latent worries about inflation mean that investors are seeking investment solutions that will help them to prepare their portfolios for the challenges that lie ahead.
Consequently, institutional investors are reducing their fixed income allocations while allocations to alternative investments, private equity, infrastructure and private debt in particular are set to increase. I believe that this trend will become significantly more pronounced over the next decade, with allocations to real assets likely to exceed 25% of investors’ portfolios.
Years of relatively high prices of agricultural commodities combined with lower crop prices and deteriorating macro conditions across developed and emerging markets has fundamentally altered the investment context of this asset class. However, this creates attractive opportunities in several asset categories for long-term investors. Indeed, the asset class has attracted institutional investors’ attention, assessing opportunities and committing allocations to this sector. Pension funds in Europe and the USA are among the major sources of fresh capital to the sector, in a trend that reflects an evolution in their investment models and their allocation strategies.
Moreover, some of the largest sovereign wealth funds have also launched dedicated strategies to pursue long-term investments across the global F&A value chain. In contrast to previous investments, which tended to targeted farmland, this time they are now taking a broader view across the entire value chain including water opportunities.
Most institutional investors have one thing in common: they are willing to increase their real asset exposure but they face difficulties in allocating capital and the timeframe to do this will probably extend over the next years. Sustainability factors are being integrated into asset management practices, as Institutional investors contribute to the discussion of responsible investing across the global agriculture sector.
Which of the following asset classes is most attractive in the current environment: gold, water, agriculture, property?
In my opinion, the quest for new investment solutions will spark a significant allocation shift towards real assets. I believe the unique combination of stable cash flows, growth potential and risk mitigation offered by real assets is unmatched by any other asset class. In contrast to structured financial products, which make similar claims, real assets are meaningful and indispensable from an economic perspective and are accepted socially. Real assets like Infrastructure can generate attractive risk-adjusted returns and deliver valuable diversification benefits.
In our view, real assets will evolve eventually into a mainstream asset class and become an indispensable necessity in a diversified investor portfolio. Our own experience supports this assertion, as we are seeing a sustained rise in interest from investors in relation to real assets investment solutions, currently with strong focus on infrastructure incl. water, and property. The prevailing market limitations and challenges that lie ahead support a strong investment case for considering real assets as a core holding within a diversified investment portfolio.
If you were to invest in water or agriculture, why would you do so, and how much would you allocate to these areas as a proportion of your overall asset allocation?
Real assets have become a part of the investment management vernacular, and investors who are worried about inflation wealth are increasingly looking to keep a significant proportion of it in real, and tangible investments.
Agriculture, like water, real estate and infrastructure projects, is an asset class than can deliver a reasonable cash dividend, and in many parts of the world has been starved of institutional capital. I think one of the key lessons learned in the past is to avoid any bundling risks – therefore, a certain level of diversification is required.
As real assets might play a more and more important role with allocations of up to 25% in total, dedicated strategies like water or agriculture will have not more than a diversifying element and should not account for more than 5% in total. Investors are looking to agricultural land or water to respond in the event that inflation manifests itself.
The real drivers of agricultural land prices or water assets historically have been improved yields or change of use. Besides, the difference between the top decile of asset managers and the next decile can be as much as 50 percent higher. So the best asset managers will deliver the best value in terms of value creation.
With commodity prices still weak, so you see improved opportunity to invest at reasonable prices in areas such as water and/or agriculture?
I believe and food commodity prices remain firm. However, I don´t think that there is so a large correlation between the commodity prices and the allocation to these both asset classes. I think investors should ensure that they are not overly dependent on commodity prices, instead, they should pursue strategies which are running independently and offering stable and running yields or returns like some of the so called “availability models” in the case of infrastructure.