The liquidity crisis that rocked pension funds last week could force big investors to reconsider putting cash into illiquid assets like infrastructure projects and growth technology firms, experts have warned.
Some UK pension funds came under extreme pressure in the fallout of the Chancellor’s tax-cutting mini-budget last week as gilt yields soared and prices tumbled. Funds deploying debt-fuelled liability driven investment strategies were asked to stump up cash for hefty collateral calls and were forced into a scramble to sell off assets on the cheap.
Analysts have now warned that the crisis may have crystallised some investors fears’ of a run on assets and will deter investment into holdings that cannot immediately be turned into cash.
“Recent market turmoil has led private sector schemes to attach much greater weight to access to liquid assets to provide greater financial stability in the event of market turmoil,” said former Lib Dem pension minister and LCP partner Steve Webb.
“Cash-strapped governments see pension funds as a key way of raising the finance for long-term infrastructure projects designed to deliver on Net Zero goals and other government objectives.
“But the current drive for liquidity amongst DB pension schemes could seriously undermine the push for investment in illiquids.”
Webb’s comments come after the International Monetary Fund sounded the alarm over the knock-on effect of funds holding illiquid assets this week, warning that a sudden run from investors to withdraw cash could threaten financial stability.
Analysts at UBS this week warned that investors would now be boosting liquidity to shore themselves up in the event of more cash calls, which could dent the appetite for illiquid assets and choke returns in the long run.
“Essentially the deterioration in liquidity (specifically market depth) in rates markets means investors need to hold more liquidity, which will dampen long term performance,” they said.
The fears could threaten ministers’ long-held hopes that big institutional investors will fuel a wave of investment into infrastructure projects and UK startups.
Then-prime minister Boris Johnson called on pension funds last year to invest “more money into the companies and infrastructure that will drive growth and prosperity across our country”, and the department for work and pension yesterday revealed plans to loosen a charge cap on defined contribution pension schemes in a bid to free up pension cash to flow into start-ups and private companies.
Some have urged caution on a write off of investors’ appetite, however. While the crisis last week may have shaken investors’ nerve, Paul Jackson, Global Head of Asset Allocation Research at Invesco, says they are unlikely to row back from illiquid holdings in the long term.
“I doubt that investors will retreat completely from such assets and I suspect that once the next cycle begins they will want such assets to be an important part of their portfolios (certainly a bigger part than was the case in the past),” he says.
“As ever, diversification is the key.”