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Invesco GlobalSovereign AssetManagement Study2020This study is not intended formembers of the public or retailinvestors. Full audience informationis available inside the front cover.Invesco Sovereign Asset Management Study 2020i
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HomeWelcome02Key metrics04Theme 108Theme 4Sovereigns look through the crisis for opportunitiesCentral banks: testing resolve in risk assetsFor sovereigns with dry powder, the market collapse inearly 2020 was an unprecedented buying opportunity.Most are well positioned to allocate capital due toend-of-cycle caution and longer-term investmenttime horizons. For some, including commodity-basedsovereigns, valuable lessons learned from the financialcrisis left them with more robust portfolios that couldcontend with government withdrawals without majorallocation adjustments or forced asset sales.Covid-19 prompted a flight to US dollar perceivedsafety and liquidity, reversing a long-term gradualtrend towards currency diversification and awayfrom the USD, due to heightened concerns overpolitical and economic risks. Despite a difficultmarket environment, central banks continue tobe committed to long-term strategic plans fordiversification and greater exposure to risk assets.Theme 2Theme 518A battle for talent on two fronts54Rising of climate change:commitment and opportunitySovereigns and central banks have recognised gapsin capabilities where talent is scarce and heavilycompeted for. For sovereigns, internalising privatemarket expertise is especially tough, while centralbanks struggle with ESG (Environmental, Social andGovernance) and fund manager selection. Internaldevelopment and retention programmes designedto meet the challenge have delivered mixed results;a significant minority intend to engage additionalexternal support.Theme 340Once seen as a distant consideration, concerns aboutthe immediate impact of climate change are now areal focus for sovereigns and central banks. Investorsare committing to carbon reduction targets, increasingutilisation of climate modelling and investing in thematicopportunities, particularly in clean technology. However,an absence of coordinated regulatory action hampersefforts with inconsistent taxonomies, definitions andregulations seen as obstacles to greater adoption.32Appendix66Gold: a glimmer of hope amid market turmoilMarket volatility and increasing government debtlevels have bolstered the case for gold in institutionalportfolios. Sovereigns view gold favourably as apotential hedge against inflation and portfolio tail-risks.While gold is a more established asset class in centralbank portfolios, interest has also increased due to itslow correlation to other central bank assets and, morerecently, a growing appreciation for its usefulness asa liquid replacement for negative yielding debt.Invesco Sovereign Asset Management Study 2020iii
WelcomeRod RingrowHead of Official InstitutionsRod.ringrow@invesco.comeWelcome to Invesco’seighth annual studyof sovereign investors.Since the publication ofthe first report in 2013,the study has evolved tocover 139 institutions,including interviews withchief investment officers,portfolio strategists andheads of asset classes at83 sovereign funds, and56 central banks. Together,these investors representUS 19 trillion (as ofMarch 2020).The five themes in the report lookto both build on the work of previousyears, and highlight new trendsand themes that have emergedover the past year. Fieldwork wascarried out in the first quarter of2020 as the implications of theCovid-19 pandemic were unfolding.Consequently, the response to theimmediate shock and dramaticmarket movements dominated thefocus for many respondents.Theme 1Theme 2“ We had a lot of drypowder ready for the endof the cycle; there appearedto be so many opportunitiesit was difficult to actfast enough.”“ We are successful atrecruiting talented entrylevel staff. However, at amore senior level the marketfor local talent is thinnerand we are then competingworldwide against similarorganisations.”Investment sovereign, EMEAMany were well prepared however,with a drop in valuations and plenty ofdry powder making the crisis a goodbuying opportunity, as discussed inTheme 1. Infrastructure was a focusfor some, especially in electricitygeneration and communications.Liability sovereign, APAC
Theme 2 explores People and Talent,a theme we examined in 2015. Assome funds look to internalise specificinvestment capabilities, significantgaps are beginning to appear betweenexisting and required capability. ESGposes a particular challenge, as dothe challenges of investing in certainmarkets, especially those in Asia.The market turmoil generated in thewake of Covid-19 cast significant lighton gold. The 2019 report highlightedthe increasing attractiveness ofgold to central banks, while thisyear’s report looks more closely atthe asset class. Both sovereign andcentral bank investors are consideringincreasing allocations, suggesting aresurgence in popularity in the faceof significant burgeoning governmentdebt levels, and fears of a potentialreturn of inflation.Central bank portfolios have changedsignificantly since the last crisis of2007-2008. Theme 4 finds manybankers responding to the crisis byseeking safety and liquidity in theUS , reversing the trend towardscurrency diversification seen overthe past few years. In contrast to thelast crisis, however, many centralbankers remain committed to riskassets and expect to continue withdiversified strategic allocations.ETFs have taken on a greater role indiversification strategies, especiallyat a time when banks are looking tobuild investment capability.In our fifth theme we return tothe ongoing focus on ESG, thistime honing in on institutionalefforts to mitigate the effectsof climate change. For investorsin North America and Europe,decarbonisation is top of the list,while investors in Asia and the MiddleEast are especially preoccupiedwith mitigating the direct effects ofextreme weather on the portfolio.Carbon modelling, direct investmentand climate targets are emergingas central strategies for dealingwith climate change, yet a lack ofa single taxonomy makes unifiedaction difficult.We hope this report gives you aninteresting and informative insightinto the world of sovereign investors.If you would like to discuss thesefindings or have any questions,please do get in touch. For morecontent on this year’s themes,please visit igsams.invesco.com.Theme 3Theme 4Theme 5“ Physical gold doesn’tanswer our needs in termsof liquidity and makingsure our government canmeet its obligations at alltimes, as transaction costsare higher for physicalassets. Therefore we mightconsider using ETFs.”“ We think we canreduce portfolio risk byintroducing a small equityallocation; we are tryingto take a long-term viewand not worry aboutshort-term fluctuations.”“ Even with a globalpandemic, addressingclimate change remains apriority. Rising greenhousegas emissions are the mostdangerous threat to ourplanet and portfolio.”Central bank, Latin AmericanCentral bank, EMEA Investment sovereign, North AmericaInvesco Sovereign Asset Management Study 2020f
Key metricsTime horizonsInvestment time horizons amongsovereign investors have continuedto extend over the past year, risingto 9.4 years from 8.5 years inlast year’s study. This has beendriven by investment and liabilitysovereigns and corresponds withrising allocations to illiquid, longdated assets in private markets. Timehorizons for liquidity and developmentsovereigns have held steady at 3.0years and 6.8 years respectively.Figure ATime horizon of investment objectives (years)2017201820192020Total ex central .86.8What is the time horizon ofyour investment objective?4Key metricsSample size: 2017 57, 2018 642019 65, 2020 58
PerformanceIn contrast to the difficult conditionsbrought about by Covid-19 in 2020,2019 proved to be a positive yearfor performance. Sovereign investorsachieved an average return of 7.6%thanks to strong equity markets andrising bond prices. This was almosttwice the average 2018 sovereignreturn of 4% that was highlighted inour 2018 Study.Liability sovereigns performed bestin 2019 with returns of 8.3%, thanksin part to their greater exposure tolisted markets, which also helpedinvestment sovereigns (returns of8.0%) and liquidity sovereigns (returnsof 6.1%). With their greater emphasison private over listed markets,development sovereigns deliveredslightly more muted performance.Figure BOne-year actual returns (%)2016201720182019Total ex central elopment4.6%11.8%6.3%5.8%What has been your fund’s actual percentageannualised return (at 31 December 2018)over the past one year period? (%)Sample size: 2016 492017 52, 2018 552019 71Invesco Sovereign Asset Management Study 20205
Asset allocationAllocations to fixed incomeincreased in 2020, to stand at 34%.Meanwhile, allocations to equitiesfell from 30% to 26% due in partto end-of-cycle concerns that ledto decreasing strategic allocations.Sovereign investors now havean average of 24% allocated toalternative investments (excludingdirect strategic investments) withallocations continuing a fiveyear-long upward march. Withinalternative allocations, privateequity and real estate continue tobe the largest sub-sectors, althoughinfrastructure and hedge funds /absolute return funds registeredthe largest year-on-year increases.Figure CAsset allocation trends (% 33%33%29%30%29%33%34%Fixed 9%Illiquid alternatives3%2%3%2%3%3%4%11%12%Liquid alternatives17%18%17%16%13%Direct strategic investments (DSI)What is your currentasset allocation?6Key metricsSample size: 2014 48, 2015 44, 2016 572017 62, 2018 63, 2019 53, 2020 78
Figure DAlternative investment asset allocation trends (% 5%3.6%3.0%Private equity8.7%8.1%9.0%7.7%6.5%4.3%4.1%Real 1%1.6%1.5%2.0%1.6%2.0%2.1%Hedge funds / absolute return funds0.9%0.5%0.6%0.3%0.6%1.0%1.0%CommoditiesWhat is your currentasset allocation?Sample size: 2014 48, 2015 44, 2016 572017 62, 2018 63, 2019 53, 2020 78Invesco Sovereign Asset Management Study 20207
Theme 1Sovereignslook throughcrisis foropportunities
For those sovereigns with dry powder,the market collapse in early 2020 wasan unprecedented buying opportunity.As custodians of long-term capital, mostalso benefit from the lack of an imperativeto sell to meet withdrawals.EquityFixedIncomeEven before Covid-19 wreaked havocon markets, sovereigns’ average equityallocations at the end of 2019 were at theirlowest level since 2013. Over the next 12months, sovereigns plan to continue allocatingto fixed income – particularly alternatives –and illiquid assets in private markets.In infrastructure, sovereigns are targetingelectricity generation and transmission,and communications sectors. Electricityprojects that help countries transition awayfrom fossil fuels are seen as a wayof meeting ESG objectives.Some commodity-based sovereigns arebraced for calls on capital from governments.However, most have large cash reservesand should be in a strong position toaccommodate this without major assetallocation adjustments or forced asset sales.
Sovereigns with dry powderreported being presentedwith unparalleled buyingopportunities as theCovid-19 pandemic causedasset prices to plummet.Indeed, a number interviewed in thisyear’s study are already benefittingfrom strict rebalancing rules thatnecessitate purchases whenallocations fall below set thresholds.The pandemic has createdopportunities for those able tomove quickly, as one EMEA-basedsovereign explained: “We had a lotof dry powder ready for the end ofthe cycle; there appeared to be somany opportunities it was difficult toact fast enough. Our internal teamhad trigger mechanisms in place tosnap up AAA-rated bonds when theyhit certain prices, and these havealready seen gains as bond priceshave recovered from their lows.”Having the courage, conviction andmandate to buy into market routscan have a significant impact onlong-term performance. Many ofthe best-performing sovereigns ofthe past ten years are those thatploughed into equity markets afterthe global financial crisis (GFC) of2008. As custodians of long-termcapital, sovereigns were keen tostress that they can move withcertainty and confidence into marketweakness, with many benefitting notonly from their longer-term objectivesbut from the lack of an imperativeto sell to meet withdrawals.In 2019, sovereigns registered theirsecond highest average performanceof the previous five years, with twothirds outperforming their targets(Figures 1.1 and 1.2). However,even before the Covid-19 outbreak,late-cycle fears meant that mostrespondents were cautious. As aresult, average equity allocations atthe end of 2019 had been cut totheir lowest levels since 2013, downby 7 percentage points compared to10Theme 1Figure 1.1Annual returns (average %, t has been your fund’s percentage annualised return(at 31 December 2019) over the past one year?2019Sample size: 2015 49, 2016 492017 52, 2018 55, 2019 71Figure 1.2Performance against targets in 2019 (% citations, sovereigns)66% 10%Outperform24%Meet UnderperformDid you outperform, meet or underperform your target return in 2019?Sample size: 59As one EMEA-based sovereign explained: “We had alot of dry powder ready for the end of the cycle; thereappeared to be so many opportunities it was difficultto act fast enough. Our internal team had triggermechanisms in place to snap up AAA-rated bonds whenthey hit certain prices, and these have already seengains as bond prices have recovered from their lows.”
Figure 1.3Asset allocation by year (average %, sovereigns)CashFixed incomeEquityIlliquid alternativesLiquid alternativesDSI20137%35%26%7% 3%3%22%20149%33%29%9% 3%3%17%9%33%29%9%2%2%18%13% %30%33%3%17% 3%13%20195%33%30%3%18% 3%11%20204%What is the current allocationfor the following assets?34%26%20% 4%12%Sample size: 2013 33, 2014 48, 2015 44, 2016 572017 62, 2018 63, 2019 53, 2020 78the same time two years ago. Overthe same period there had been anincrease in fixed income allocations,up by 4 percentage points, and illiquidalternatives up by 3 percentage points(Figure 1.3).Despite dramatic revaluationsacross numerous asset classes, thatcaution remains. While several notedthat there had been opportunitiesto purchase quality companies atlower prices, spring’s market reboundhas done little to curtail the overalltrend to lower equity allocations atthe time interviews were conducted.As one North American liabilitysovereign explained: “We thoughtequity prices looked stretched beforethe pandemic, given the stage of thecycle, and even now they are notthat far from all-time highs, despitea global economic shutdown and amassive surge in unemployment.”Invesco Sovereign Asset Management Study 202011
Fixed income and illiquid alternatives retain their appealOverall, 43% of sovereigns are planning to increase allocations to fixedincome over the next year (with 24% decreasing) while only 22% plan toincrease equity allocations (compared to 37% decreasing). At the same time,illiquid alternatives continue to attract inflows, with 43% planning to increaseallocations to both private equity (PE) and infrastructure, and 38% planningto increase allocations to real estate (Figure 1.4).However, government interventions, including rate cuts and a new roundof global quantitative easing, forced down yields and had a positive impacton many fixed income portfolios. This has been aided by a significant rallyin riskier parts of the fixed income market, including high-yield bonds andleveraged loans, which had initially seen some of the sharpest selloffs.Figure 1.4Asset allocation intentions for next 12 months (% citations, sovereigns)Decreasingsignificantly ( easesignificantly ( 5%)41%22%Equities0%18%19%Fixed income3%3%21%33%36%7%9%8%Cash2%2%14%67%Absolute return funds3%3%6%3%17% 3%71%Real estate (unlisted)0%15%47%28%10%Private equity3%3%9%45%34%9%Infrastructure0% 3%3%54%37%6%Direct strategic investments0%2%2%3%16% 3%79%Commodities0%2%2%7%For each asset class, do you intend on increasing/maintaining/decreasing your SAA over the next 12 months?12Theme 176%15%Sample size: 68
Figure 1.5Allocation to alternative credit(average %, sovereigns)4.5%2018 study5.3%2020 study6.5%Three years’ timeWhat is your current allocation to alternativecredit (as a percentage of your overallportfolio)? What do you expect it to bein three years’ time?Sample size: 38Sovereigns continue to expressappetite for expanding theiralternative fixed income allocations,the growth of which has contributedto the rising position of fixed incomewithin portfolios. As of the endof 2019, alternative fixed incomeaccounted for an average of 5.3% ofportfolios. This is up from 4.5% atthe end of 2017 and is set to risefurther to reach 6.5% over the nextthree years (Figure 1.5). Emergingmarkets debt currently has thewidest appeal, followed by high-yieldcorporate debt and real estate debt(Figure 1.6).With listed asset prices havingalready regained ground and theglobal outlook still so uncertain,sovereigns emphasised that itwas in unlisted markets such asinfrastructure and real estatewhere many of the most significantopportunities were likely to be found.It’s here that their size and longinvestment horizons can deliverthe most significant competitiveadvantage. This includes taking onassets from other large investorswho may be forced to sell to meetredemptions, creating opportunitiesin the secondary market.Figure 1.6Preferred types of alternative credit (% citations, sovereigns)Currently investedMost attractive over next three yearsEmergingEMdebt market debt71%50%High yield corporate debt65%41%Real estatedebtEstateestatedebt57%43%Direct lending51%37%Infrastructure debt45%20%ABS / Structured credit35%24%Distressed debt31%13%Bank loans29%17%Which of the following types of alternative credit are you invested in? Which doyou see as most attractive for future investments over the next three years?Sample size: 51Fixed income’s traditional position as a defensiveanchor was initially tested by the crisis, with evenUS Government debt caught up in a broad-basedselloff as investors rushed into cash.Invesco Sovereign Asset Management Study 202013
Covid-19 acceleratesexisting infrastructuretrends and createsdistressed opportunitiesWithin the infrastructure asset class,sovereigns report the highest levelof interest in
asset allocation? Sample size: 2014 48, 2015 44, 2016 57 2017 62, 2018 63, 2019 53, 2020 78 Asset allocation Allocations to fixed income increased in 2020, to stand at 34%. Meanwhile, allocations to equities fell from 30% to 26% due in part to end-of-cycle concerns that led to decreasing strategic allocations. Sovereign investors .
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