Dream Big — KKR Insights, Global Macro Trends

Link: https://www.kkr.com/sites/default/files/Dream_Big_20211006.pdf

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To compensate for the ongoing pressure on interest rates,
CIOs participating in our survey have made substantive,
structural shifts in their asset allocations. Why did they
make this transition? We believe that CIOs are embracing
complexity and the thoughtful use of illiquidity, as public
market assets roll off and excess cash builds up. Improved
asset-liability matching and more robust risk management
have also helped, we believe. Reflective of these shifts,
non-traditional investments, including Real Estate Credit
and Structured Credit, collectively experienced almost a
1,200 basis point increase in market share. As a result, total

non-traditional investments now account for 31.8% of total
portfolios surveyed, compared to 20.3% in 2017. As we
detail below and in Exhibit 21, our work shows that 100%
of the gain came at the expense of traditional public credit,
which fell to 48.5% of portfolios surveyed, compared to
60.7% in 2017. Meanwhile, the allocation to Liquid Equities
(predominantly by Property & Casualty and Reinsurers that
typically favor Public Equities for liquidity) slipped to 5.5%
from 9.1% over the same period. Cash as a percentage of
assets is now at 4.9%, which is almost double the level
it was the last time we did the survey. See below for full
details on this increase but we think high cash balances
are fueling thoughtful moves into longer duration assets.
However, there is obviously more work to be done, as the
supply of yielding, long-term assets remains limited.

Author(s): KKR

Publication Date:

Publication Site: KKR Global Institute

Think Twice Before Paying Off Your Mortgage Early

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The concern with this exercise is its reliance on past returns. With interest rates near zero, significant economic growth is needed to generate market returns close to those experienced over the last 100 years – approximately 11% per annum. To explore the implications of different future investment performance, let’s repeat the process above by reducing the average return of historical stock returns while maintaining the same risk (i.e., volatility).

Panel A shows that as the return on Lena’s savings increases, i.e., we move from left to right along the horizontal axis, the value of investing the money relative to paying off the mortgage early increases. At a 3% savings return, the cost of her mortgage, Lena would be indifferent between saving extra money and paying down her mortgage early because both options lead to similar average savings balances after 30 years. Savings rates higher (lower) than 3% lead to higher (lower) savings for Lena if she invests her money as opposed to paying down her mortgage early. For example, a 5.5% average return on savings, half that of the historical return, leads to an extra $57,000 in after-tax savings if Lena invests the $210 per month as opposed to using it to pay down her mortgage more quickly.

Panel B illustrates the relative risk of the investment strategy. When the return on savings is 3%, the same as the cost of the mortgage, the choice between investing the money and paying down the mortgage comes down to a coin flip; there is a 50-50 chance that either option will lead to a better outcome. However, if future average market returns are 5.5%, for example, the probability that investing extra money leads to less savings than paying down the mortgage early is only 26%. For average returns above 6.5%, the probability that investing the extra money is a bad choice is zero. In other words, there hasn’t been a 30-year historical period in which the average stock market return was below 3%, even when the average return for the 100-year period was only 6.5%.

Author(s): Michael R. Roberts

Publication Date: 15 March 2021

Publication Site: Knowledge @ Wharton

With lower returns on the horizon, public pensions will turn to riskier assets, Moody’s says

Link: https://www.marketwatch.com/amp/story/with-lower-returns-on-the-horizon-public-pensions-will-turn-to-riskier-assets-moodys-says-11614289692?mod=dist_amp_social

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State and local government pension systems are increasingly dependent on investment returns, and at risk of increasingly volatile results, as funding levels remain depressed and systems increasingly start to pay out more than they take in, according to a new report from Moody’s.

The credit-ratings agency anticipates higher volatility and lower returns across asset classes in 2021 compared to 2020, even as many pension sponsors have spent the past few years lowering their assumed returns from previous loftier targets that they rarely hit.

“With persistently low interest rates for high-grade fixed-income securities, public pension systems continue to rely on highly volatile equities and alternatives to meet return targets, posing a material credit risk for some governments,” the Moody’s analysts wrote.

Author(s): Andrea Riquier

Publication Date: 25 February 2021

Publication Site: MarketWatch