Firms Pull Back On Equities

Some firms are pulling back from historic highs in equity allocations for balanced and asset allocation funds sold to retirement plans.

Some firms are pulling back from historic highs in equity allocations for balanced and asset allocation funds sold to retirement plans. David Chalupnik, head of equities at First American Funds, said the firm’s $371 million First American Balanced Fund, for example, is moving from close to 70% equities to 65%, which he noted is still over-allocated according to the traditional 60-40 split typically used. Last year lower than expected investment returns, low inflation and the expectation of equity sales at 18 times earnings made fund managers more aggressive (DCSPA, 6/27). This year, Chalupnik said, the Federal Reserve has given signals that interest rates could continue rising. The Lehman Brothers Aggregate Bond Index value has also increased. A lot of the increase in fixed-income allocation is in short-term bonds, he added.

Ned Notzon, chairman of the asset allocation committee at T. Rowe Price, said the firm has a range of plus or minus 5% for its target-date retirement funds and plus or minus 10% in its balanced and target-risk funds. Right now the firm is about 5% overweighted in its target risk and balanced funds, giving an equity weighting of 65%, and 3.5% in the retirement date funds (the percentage varies according to the year of maturity). The firm has $30 billion under management in asset allocation funds. The allocations in the balanced funds had reached 67%, he noted, but the firm pulled back because of noises from the Fed. “Earnings are still good,” Notzon said, “so the long-term downside is limited.”

One counter-intuitive result of the over-allocation to equities is an increase in the allocation to international equities, Chalupnik said. This is because many international markets are now more closely correlated to the U.S. “Historically [the correlation] was more negative,” he said. “The longer term correlation used to be 0.47 or something, now it’s 0.7 or so.”

Notzon agreed, noting that T. Rowe has about 15-20% of its equity holdings in international funds and the upward price movements have been driven by U.S. investors sending their money abroad.

Tom Roseen, senior research analyst at Lipper, said that unless the Fed does something surprising, such as announce no rate increases for the rest of the year, there will be pressure on both equity returns and long-term fixed-income securities, which points to more firms seeking safety in short-term fixed income. He added that Lipper has seen a lot of flows into money market funds as well. He added that balanced and asset allocation funds have done well in terms of retaining assets as investors--especially those in 401(k) plans--have continued to put their money there.