Client Demand Drives Consultant Focus on LDI

More corporate and institutional clients are seeking investment consultants and financial advisers with expertise in liability-driven investing (LDI), says a report from Cerulli Associates. 

Investment consultants said they are seeing more interest from plan sponsor clients taking steps to adopt an LDI approach and are increasing third-party resources to get ready, according to the Boston financial analytics firm. As corporate pension plans continue to de-risk, the need for more long-duration fixed-income products to better match clients’ risk profile, liquidity needs and long-term liabilities will also rise, the report suggests.

To fully utilize LDI, retirement plan sponsors and adviser resources will have to look beyond traditional style boxes and be more consultative in their product selection efforts, Cerulli contends. Sponsors and advisers also must find new ways to help plan participants capitalize on market opportunities while avoiding key risks, especially longevity risk and the risk of catastrophic downturn events occurring late in a participant’s investment lifecycle.

Investment consultants need to abandon the old approach of selling a single product, Cerulli says, and instead help sponsors and advisers understand a product’s ability to play a specific role in the portfolio, such as a hedge against inflation or reduction of interest rate risk. For their part, advisers and sponsors are encouraged to more proactively assess a participant’s risk appetite and investment behaviors, leading to a better understanding of how and why to implement LDI.

Cerulli notes that as LDI continues to grow in complexity, asset managers with advanced fixed-income strategies have developed their solutions to meet the capabilities of pension consultants, bringing streamlined solutions to sponsors and advisers. Also, Cerulli’s data shows that plan sponsors already implementing LDI generally outsource glide path monitoring, as few plans possess the internal governance structure to adequately serve this function.

Cerulli asserts that even if pensions transfer $200 billion over the next 10 years, the corporate defined benefit (DB) market, with $2.6 trillion in assets as of 2012, still offers opportunities for asset managers and consultants. Many de-risking strategies, including an LDI glide path approach and pension buyouts, require much coordination between various internal and external parties involved in a specific de-risking approach.

To reduce fees and avoid overpaying for alpha, sponsors are slowly shifting towards passive assets, Cerulli says, which generally have lower fees and expenses. Passive investing is a secular trend and poses a threat to active managers struggling to produce significant alpha over the long run. Sponsors and advisers should be sure to vet a fund manager’s track record for insights on its ability to outperform the markets over time. 

Other findings in the report suggest plan sponsors and institutional asset managers are showing a greater interest in ceding portfolio decisionmaking responsibility to third-party consultants and fiduciary adviser resources. As of year-end 2012, consultants’ outsourced business on average represented 12% of survey participants’ assets under advisement, up from 9% at year-end 2009.

Consultants surveyed by Cerulli stated that their outsourced chief investment officer (OCIO) business increased in 2013, and that they anticipate more interest from corporate plans and institutional clients in this area. (See "How High Can DCIO Go?") In three years, consultants expect that, on average, their OCIO business will represent 18.5% of total assets, up from 12% at the end of 2012.

Information on how to obtain the full report, “The Evolving Investment Consulting Industry and Business Model: Opportunities for Institutional Asset Managers,” is available here.