Increasing exposure to less liquid, alternative assets like infrastructure, real estate and private equity hasn’t created difficulty for Canadian pensions in repaying creditors, according to a report by Moody’s Corp.
As pension portfolios have increased their allocations to alternatives, with these assets now making up close to 40 per cent of Canadian plan’s investments, concerns around liquidity issues are on the rise as well, noted the report. However, this problem appears to be mitigated by the coinciding increase in pension funds’ exposure to highly liquid securities during the past two years. As well, the report found pensions are finding more ways to create recurring investment income in addition to reducing their reliance on short-term debt programs.
To measure the liquidity of particular assets, Moody’s ranked them on levels from one to three, with level one as the most liquid and three the least. “Relative to most fixed income, equity exposures associated with level one assets are credit negative because equity has higher historic price volatility,” said Jason Mercer, a vice-president at Moody’s and author of the report, in a press release. “However, these exposures have replaced less liquid, level two investments, a credit positive from a creditor perspective, because they can be easily sold should a pension manager need cash. This is especially important during times of market turbulence.”
From 2015 to 2017, marketable equity increased from 21 per cent in gross assets to 25 per cent, while exposure to fixed income dropped from 12 per cent to nine per cent. While these adjustments do help mitigate liquidity risk, they also increase the potential for volatility within the larger portfolio, noted the report.
Further, as pension funds continue to leverage their assets, they’re changing how they do it. Overall, funds are lengthening the terms of their debt offerings, reducing the risk for the need to refinance, according to the report.