Pension funds have begun the new year with a warning from the OECD about liquidity risks posed by private assets, as allocators continue to raise exposure.
New York passed a bill on 23 December raising its investment cap on alternative investments from 25% to 35%, the latest high-profile investor move.
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“Amid a challenging market environment, we believe this is the most significant long-term adjustment we can make to safely maximize returns,” New York City Comptroller Brad Lander said to Bloomberg.
The clause, which hadn’t been changed since 2006, means a tenth more of overall assets at New York state and city level can be allocated to private assets, as well as hedge funds and foreign currency, potentially releasing tens of billions more into the sector.
But the year ended with a warning from the Organisation for Economic Co-operation and Development that pensions, particularly small and mid-sized funds with smaller research functions, should treat private assets with caution.
“There is a call now for greater flexibility in regulation to allow [defined contribution] schemes to invest in illiquids and infrastructure and this is fine,” Pablo Antolin, principal economist at the OECD Financial Affairs Division’s private pension unit, told the FT.
“But we also have to be extremely careful because liquidity issues are very important in the management of investment strategies.”
The UK’s LDI crisis in October, which saw the Bank of England intervene after sudden bond yield moves led to pensions facing unprecedented capital calls, is seen as a cautionary example of pension liquidity risk going into 2023.
The debate over the sector escalated last year, as returns in private equity and other areas of privates raced ahead of public stock and bond market performance, with the typical 60:40 portfolio having its worst year in almost a century.
But Harvard Management Company admitted the lag time in marking assets could partly explain the outperformance.
“Private managers have not yet marked their portfolios to reflect general market conditions. This phenomenon does make us cautious about forward-looking returns in private portfolios,” it said in a letter to investors.
AQR’s Cliff Asness has been a vocal critic, accusing the privates sector of “volatility laundering” and Ruchir Sharma, the chair of Rockefeller International, said returns offered an “an escape from reality.”
New York’s decision and the OECD’s warning show this market dynamic and the debate alongside will continue with interest this year.
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