Many US pensions are engaged in a critical balancing act, as they seek to manage funded status volatility and close funding gaps on their glide path to fully hedged liabilities. Recent research by Adhi Mallik, Portfolio Strategist on the Active Quantitative Equity team and Orhan Imer, Senior Portfolio Manager on the Fixed Income Team, found that plans which are able to tolerate a degree of risk and have an interest in alpha generation (not just in drawdown mitigation) could benefit from defensive equity strategies, which carry a dual risk-and-return mandate.
Defined-benefit pension plans that implement a liability-driven investment (LDI) framework for their assets often face challenges on their way to a fully hedged portfolio – they must continue to seek returns in order to reach fully funded status, but are under pressure to reduce liability-hedging risk.
Defensive equity strategies seeking to participate substantially in up markets while limiting exposure to market downsides (i.e., approximately an 80:60 ratio of upside to downside capture) can significantly outperform their benchmarks.
Utility stocks are becoming more volatile and, from a valuation perspective, less attractive. Meanwhile, insurance stocks are currently expressing the risk and return attributes of a classically defensive exposure.