The risk associated with high-profile name concentration in technology equities is pushing institutional investors to consider risk-mitigating strategies, according to Nick Zylkowski, managing director and co-head of customized portfolio solutions at Russell Investments Ltd., speaking during a session at the Canadian Investment Review’s 2024 Risk Management Conference.
He noted investors are reviewing their exposure to a group of high-end mega-cap technology stocks known as the ‘Magnificent 7’ — Alphabet Inc., Amazon.com Inc., Apple Inc., Meta Platforms Inc., Microsoft Corp., Nvidia Corp. and Tesla Inc. — with different policy benchmarks that can down weight the influence of these stocks in their overall capital allocation.
Due to fluctuations in this group, Zylkowski suggested investors consider strategies around divestment when the concentration becomes too risky or increase allocation to baskets of securities from the Magnificent 7 to better manage an active risk policy.
“[While] evaluating portfolios relative to a market capitated benchmark, [we find that] active managers are persistently underweight the Magnificent 7.”
As institutional investors face a wide range of unexpected risks augmenting volatility in the markets, risk management is increasingly relying on speedy responses and a variety of safeguard tactics, said Zylkowski.
In particular, he noted liquidity risk management is becoming a common theme due to an acceleration from significant events like the recent turmoil in the Japanese investment market caused by its central bank’s interest rate hike in July. “These liquidity events are happening more frequently and they cause immediate volatility and impact in other asset classes. They start to cause market shifts.”
In response to the current volatility, investors are favouring a push for private assets, he said, though he acknowledged these assets have their own set of challenges when it comes to liquidity. “Private assets are now not only overweight strategic asset allocations, but they’re calling capital while distributions have slowed.”
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An effective toolkit for institutional investors includes exposure management tools like cash equitization, beta management and a custom liquidity portfolio, said Zylkowski, noting it also has a risk completion segment, meaning investors need a big picture snapshot of all the risk factors within their portfolio instead of just being based on asset allocation or regional diversification.
In addition, any risk management plan requires an efficient implementation strategy. “[It’s about] understanding where the risks are and then having the tools to actually close the gaps,” he said, adding the investor can then remove any unintended risk and get back to its specific strategic targets.
Zylkowski also highlighted how operational challenges are costing institutional investors in the long term, referring to the trading costs in a currency conversion transaction. He suggested investors adjust and move these trades to be routed through a centralized agency trading platform instead of leaving the conversion task to the custodian trading the currency against its own balance sheet.
“[Institutional investors aren’t] really thinking about what cost, what impact that delegated trade is really having on the overall portfolio.”
Read more coverage of the 2024 Risk Management Conference.