Bridgewater, AQR take aim at DC assets

Risk parity, hedge fund approaches tweaked to fit with target-date funds

Dec 27, 2011 @ 3:17 pm

By Christine Williamson

Two giants of the alternative investment management world — Bridgewater Associates LP and AQR Capital Management LLC — are turning their attention to the defined contribution plan market.

With their sights set firmly on the trillions of defined contribution plan assets expected to move into customized target-date funds before the end of the decade, each company is looking to make sure their risk-parity and hedge fund strategies are readily available for use as components within the target-date series.

On Dec. 15, Westport, Conn.-based Bridgewater Associates opened a daily liquidity version of its specialist risk-parity strategy, All Weather, in response to demand from the firm's corporate clients. Bridgewater's All Weather strategy has been available with monthly liquidity, but the daily liquidity version permits defined contribution plan sponsors to easily slot the strategy as a component in customized target-date funds, confirmed a source with knowledge of the development who requested anonymity.

The source said one client so far has invested in the new daily valued commingled fund version of All Weather, but could not name the company. Bridgewater spokesman Parag Shah declined to comment.

Of the $120 billion Bridgewater Associates managed as of Nov. 30, $45 billion was in the All Weather strategy.

AQR also offers a risk-parity strategy, but the multiasset-class manager hopes to offer large defined contribution plan sponsors a broader suite of low-beta, active hedge fund strategies in a solutions-based format, said David G. Kabiller, co-founder and head of business development and client service at the Greenwich, Conn.-based company.

“Defined contribution plans need to have sources of uncorrelated returns, and a number of our active trading strategies can add attractive risk-adjusted returns and diversification to a defined contribution portfolio,” Mr. Kabiller said.

The range of strategies that AQR will make available to large defined contribution plans for customized target-date funds include some of its more capacity-constrained liquid investment strategies including global macro, defensive market neutral, managed futures, merger arbitrage and convertible arbitrage, as well as its risk-parity approach.

As with AQR's move three years ago to add a range of alternative investment strategy mutual funds, the firm's planned move into the defined contribution plan market is specifically aimed at diversifying its client base.

The mutual fund family has attracted $5.5 billion, and the firm managed $1 billion in those mutual funds and other strategies for defined contribution plans. “When we looked at the marketplace, it was very clear that given all the problems that defined benefit plans are having ... defined contribution plans will be the winning horse,” Mr. Kabiller said.

AQR managed a total of $42.9 billion as of Nov. 30.

Bridgewater and AQR are among a group of investment-only managers seeking to capture some of the enormous flow of defined contribution plan assets that experts expect will be moved into next-generation, customized target-date funds with allocations that look to offer better risk-adjusted returns through the addition of more diversified investment strategies such as hedge funds, real estate, risk parity and real assets.

“It doesn't surprise me that money managers are looking at defined contribution plans as their next source of capital,” said Winfield Evens, outsourcing investment strategy leader at consultant Aon Hewitt, Lincolnshire, Ill. “Defined contribution plan assets will clearly grow over time and all of the other retirement vehicles simply will not,” he added.

Target-date funds will account for an estimated 48% of the projected $7.7 trillion in U.S. defined contribution plan assets by 2020, compared with 12.5% of $4.4 trillion in DC assets in 2010, according to industry researcher Casey Quirk & Associates .

Target-date makeover

Poor investment performance and market volatility at various times over the past three years have pushed an estimated 20% to 30% of large DC plan investment committees to make over their target-date fund families with an eye toward improving returns and controlling downside risk, sources said.

A third of Aon Hewitt clients with at least $1 billion in DC assets already have moved to customized target-date funds, and for the balance of their large plan client base “improving the target-date fund asset allocation is a topic that is top-of-mind for many investment committees” going forward, Mr. Evens said.

Sources said the biggest improvement in target-date fund management is in risk management and diversification.

Adding a risk-parity strategy as a component of a target-date fund, for example, offers equity-like returns with bond-like risk with the use of leverage. Most risk-parity strategies rely on maintaining equal risk exposure between stocks and bonds. Bridgewater's All Weather strategy, on the other hand, invests in a number of different asset classes, offering packaged exposure to different asset classes in addition to leveraging the bond exposure to achieve equity-like returns.

Risk-parity strategies proved their worth in the fourth quarter of 2008 and the third quarter of 2011. “These two periods were proof points for risk-parity approaches,” said Peter Gallagher, managing director and national sales manager of institutional business development for Atlanta-based Invesco. “That second proof point, just last quarter, pushed a lot more defined contribution plan sponsors to look very seriously at adding risk-parity to their target-date funds to control downside volatility,” he added.

INVESCO managed $158 million as of Nov. 30 in its target-date fund family, which is managed using a risk-parity approach.

The target-date fund vehicle enables DC plan sponsors to use the same kind of sophisticated investment approach that defined benefit plans apply, said Stacy Schaus, executive vice president and defined contribution plan practice leader at Pacific Investment Management Co., Newport Beach, Calif.

“We've talked about the `DB-ization' of DC plans for years and now, with target-date funds, this finally is happening. Target-date funds have opened the door to institutional investment management for defined contribution plans. DC plan investment used to be focused on the participant, and options were those which could be easily explained to them. With target-date funds, you can explain to the participant that you are enhancing their returns and protecting their assets from downside risk and bring pretty much anything into a DC plan asset allocation that you could into a DB plan, as long as it's liquid enough,” Ms. Schaus said.

PIMCO managed $200 million in its target-date funds as of Nov. 30.

This story first appeared in Pension & Investments, a sister publication of Investment News


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