(London) – More than nine-out-of-ten (93 per cent) of global institutional investors actively consider ESG and sustainability in their real assets investment decisions, with 17 per cent considering it a critical factor, according to new research from Aviva Investors, the global asset management business of Aviva plc.
The findings form part of the fifth annual ‘Real Assets Study’ from Aviva Investors, which canvassed views from 500 institutional investors around the world, including pension funds, insurers, global financial institutions and official institutions, together representing more than $3.5 trillion in assets.
The Study also revealed that two-thirds (64 per cent) of institutional investors plan to increase their allocations to real assets over the next two years, with 46 per cent planning to do so by up to ten per cent. The highest allocations are by investors in North America, where almost a quarter have greater than 20 per cent of their portfolio in real assets, compared to 19 per cent of European and 17 per cent of Asia Pacific investors.
Whilst diversification remains the primary driver for investing in real assets according to 57 per cent of respondents, the ability of these strategies to provide inflation-linked income is increasingly driving allocations. Aviva Investors’ research reveals 53 per cent of respondents allocate to real assets for its ability to provide inflation-linked income, versus just 33 per cent three years ago. With half of institutional investors having a net-zero commitment in place, the Study found 28 per cent of respondents allocate to real assets to capture its positive ESG impacts, compared to just 17 per cent three years ago.
Daniel McHugh, Chief Investment Officer, Real Assets, at Aviva Investors, said:
“Inflation had an acute impact on the economic and investment landscape in 2022, making it increasingly expensive to hedge against it through traditional asset classes, whilst rising interest rates have eroded returns. The ability of real assets to provide inflation-linked income has woken investors up to the attractiveness of these strategies beyond simply being a diversification play. They are now playing a meaningful role in overall portfolios, offering investors a broad menu of options with varying degrees of risk and inflation protection built in.
“The Study shows that demand is also being driven by the ability to assess the positive impact of these investments beyond returns, such as contributing to sustainability-related objectives.”
Aviva Investors’ Real Assets Study found 67 per cent of institutional investors feel they have a responsibility to invest sustainably. Corporate values (61 per cent) and risk management (59 per cent) are both important factors for pension funds. Even so, more than three-quarters (79 per cent) favour a fund or strategy that prioritises financial returns whilst integrating ESG factors. This preference for a returns-based approach holds true for 90 per cent of investors in North America, compared to 71 per cent of European and 82 per cent of Asian investors. Investments supporting the energy transition are expected to secure the best financial returns according to 56 per cent of respondents, as well as being most likely to provide the best ESG impact (50 per cent).
Over the next 12 months, difficulty of finding opportunities (53 per cent), transaction costs, and valuations (both 50 per cent) are considered the greatest barriers to increasing allocations to real assets. Respondents also consider greenwashing the biggest material risk (52 per cent) to investment in sustainable real assets, ahead of concerns over valuations (44 per cent). Illiquidity (69 per cent) is the top concern for investing in real assets more generally, whilst valuation risk (57 per cent) is also a big concern, especially for pension funds (61 per cent).
Daniel McHugh added:
“Whilst concerns about high valuations feature prominently in this year’s responses, just 22 per cent of institutional investors see climate-related obsolescence as the most material risk. Currently, capital pricing models do not adequately capture new factors such as this in their numbers, which carry material risk for investors. That has to change. As the market looks at assets through a net-zero lens, even prime assets could become vulnerable. Investors must be alive to how quickly – and to what extent – obsolescence could accelerate and the potential impact it could have on portfolios.”
Looking across the different sectors within real assets, real estate equity is the most popular among investors, representing 30 per cent of allocations. This is down from 31 per cent two years ago and is expected to remain at the same level over the next two years. In contrast, infrastructure equity is gaining traction, with institutional investors most likely to increase allocations to this area, rising from 12 per cent two years ago to 13 per cent today and 14 per cent in two years’ time. Direct investment (46 per cent) is the preferred route to market, followed by multi-asset pooled funds (40 per cent) and single-asset class pooled funds (32 per cent).
“It is clear real assets investors value the different access routes available to them. Gone are the days when allocations to each asset class within real assets would be looked at in isolation. Instead, investors are often looking for a multi-asset and outcome-led approach, which can align with corporate values. With 81 per cent of investors citing performance track record as being the most important criteria in selecting real assets manager for a sustainable mandate, it is hugely important they choose an asset manager able to make relative value calls that also understands the challenges involved in achieving long-term ESG objectives.”