casey quirk - 2011 consultant survey

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• Investment consultants servicing North American institutional investors will continue to favor as

managers with the following five characteristics:

- A focus on non-correlated investments that add excess return to portfolios

- The ability to offer both traditional and alternative investments

- Innovative product development

- Fully globalized portfolios

- Competitive long-term incentive schemes

• These success factors reflect three core shifts in institutional portfolio construction:

- A greater emphasis on outcomes- An increasingly central role for alternative investments

- A wider use of global benchmarks

• Managing inflation and longevity risk have become critical policy concerns, especially among corporat

defined benefit plans. More than one-half of consultants expect increased search activity for inflation-

hedging strategies; more than a one-third anticipate boosted mandates for liability-driven portfolios in

• Inflation fears are driving demand for illiquid investments, with consultants predicting significa

increases in private equity and real estate mandates.

• Appetite for hedge funds continues to rise. Consultants expect the most search activity to cent

hedge funds during 2011, although a growing number of large investors will turn to more direct

mandates, using funds of hedge funds for specialist portfolios instead of core hedge fund exposu

• Institutional investors will continue to look outside the United States, with more than 80% of

consultants expecting their clients to increase their non-U.S. equity exposures in 2011.

• Demand for emerging markets equity and debt specialists will surge, with more than one-third o

consultants expecting EME to see the most search activity in 2011. Conversely, less interest will

manifest for EAFE mandates, the traditional international staple investment.

• Interest in U.S. core and core-plus fixed income strategies will drop off materially. Only 60% of

consultants expect moderate or strong search activity for U.S. bonds, which rank 9th overall amo

expected mandates for tender.

• Traditional asset classes are expected to experience material manager replacement. More than

of consultants expect more than half of U.S. equity, U.S. fixed income and EAFE equity search act

to involve manager replacements.

Old Wine in New Bottles2011 Consultant Search Forecast

April 2011



Introduction

Casey Quirk and eVestment Alliance have worked together to produce their fifth annual survey of

investment consultants in the United States and Canada. Conducted in December 2010 and

January 2011, the survey asked investment consultants to forecast investment preferences and

buying behavior among North American institutional investors during 2011.

This year, 55 investment consultants, representing an aggregate $10.4 trillion of assets under

advisement—including 15 of the 20 largest North American consultants—expect slower growth in

the number of searches they will conduct. Nearly half of respondents predict search activity in

2011 will only match 2010 levels, and no one forecast more than a 25% rise in the number of

mandates. By contrast, nearly 90% of 2010 survey participants forecast a rise in search activity,

with 20% calling for a spike of 25% or more. Slowing growth in search activity makes sense, as

institutional investors emerge from the policy rebalancing many conducted during 2010, following

the global financial crisis.

The asset management firms successful in winning mandates during 2011 will continue to offer

product lines and servicing models that embrace three key trends continuing to reshape

institutional investment in North America:

1. A greater emphasis on outcome-oriented portfolios, which investors are using to address

their rising concern regarding inflation and longevity risks; this has led to further use of

commodities, property, and longer-dated investments.

2. The increasing role of heretofore “alternative” investments—hedge funds, private equity

and real estate—which are emerging as the centerpiece of active asset management

moving forward.

3. Ongoing portfolio globalization, and a wider belief that emerging markets require specialist

managers.

These trends reflect the new frameworks with which institutional investors and their consultants

are building portfolios, with exposure defined less by product packaging or home bias, and more

by the specific contributions investments make toward overall objectives.

April 2011 Old Wine in New Bottles2



These new portfolio construction strategies continue to underscore longer-term implications for

fund managers servicing North American institutional investors:

• Managers offering non-correlated investments will realize the most success in winning

mandates.

• Firms offering both “traditional” and “alternative” investments will stand the best chance of providing institutional clients with a total portfolio solution.

• Product development and innovation will remain critical competitive differentiators.

• Managers using global benchmarks and demonstrating international expertise will benefit most

from broader policy reallocations among larger institutional investors.

• Asset owners and their consultants will keep favoring investment managers with long-term

incentive alignment structures that motivate and retain talent.


Emerging Institutional Investment Framework

Exhibit 1

Credit

Cash

Equity

Real Estate

Private Equity

Hedge FundAllocation

A l t e r n a t i v e s

Legacy Allocation

Paradigm*

Credit

Cash

Equity

Real Assets

Liquid Alpha

(Opportunistic)

IlliquidInvestments

• Private Equity• Distressed

• Portfolio objectives definedaround outcomes

• Alternatives become centerpieceof active asset management

• Long-only, long-short, creditmanagers compete head-onfor wider mandates

• Wider focus on real assets andinflation protection

• Global Macro• Market Neutral

• Real Estate• Commodites

• Long-Short Equity• Long Only Equity

• Long-Short Credit• Core Plus• High Yield

Emerging Allocation

Paradigm*

Note: Not to scale. Source: Casey Quirk.



2011 Product Opportunities

Our product opportunity map compares expected search activity for the upcoming year relative to

forecast from the previous year. Consultants continue to believe that longer-term trends in search

activity favoring hedge funds, funds of hedge funds, and non-U.S. equities will keep driving

search activity in 2011. Respondents report that these asset classes remain net beneficiaries of

policy rebalancing, often at the expense of domestic equity, where search activity remains robust,

but fueled mostly by manager replacement rather than new allocations.

Most-Sought Asset Classes, North American Investment Consultants, 2008-2011

Exhibit 2

1

2

3

4

5

6

7

8

Hedge Funds/Funds of Hedge Funds

International/Global Equity

Domestic Equity

Real Estate

Private Equity

Core/Core-Plus Fixed Income

LDI/Long Duration Fixed Income

Commodities


Domestic Equity



Real Estate

High-Yield Fixed Income

Private Equity

LDI/Long Duration Fixed Income



Emerging Market Equity1


Commodities

Domestic Equity

Long Duration

Real Estate

2008 2009 2010


Emerging Market Equity

ACWI ex-U.S. Diversified Equity

Real Estate

U.S. Equity

Global Equity2

Private Equity

Commodities

2011

2

Notes: 1Added beginning in 2010 2 Combined prior to 2010.

Sources: Casey Quirk, eVestment Alliance.


Consultants, however, expect to see three noticeable shifts in search activity during 2011:

1. More demand for unlisted investments, driven by rising inflation and longevity fears among

North American institutional investors. Consultants believe private equity and real estate

search activity will increase substantially, particularly among corporate and public defined

benefit pension plans of all sizes, many of which are struggling to find ways to execute

liability-driven investment strategies.

2. Increasing specialist demand for emerging markets equity and debt. Admittedly, our survey

concluded before February 2011, when popular uprisings in several Arab nations and rising

inflation in Asia cast a pall over emerging markets. Nevertheless, consultants continue to argue

that their clients are underweight developing economies, and given capacity constraints in the

asset class, specialist managers may be best suited to manage EME and EMD mandates.

3. Reduced interest in core and core-plus fixed income mandates. As tactical de-risking runs its

course, and interest rates in the United States remain at a nadir, consultants believe searches

predicated on duration trades will wane. Instead, sophisticated institutional investors will

explore mandates that position credit as an alpha engine, particularly as sovereign default

concerns spread worldwide, from European governments to American municipalities.

Emerging market debt has been a key beneficiary of this trend.



2011 Product Opportunity Map

Exhibit 3

IncreasingSearchActivity

DecreasingSearch

Activity

High

Low

HighLow

Emerging MarketsEquity

Hedge Funds/FoHF

Emerging MarketsDebt

Real Estate

Private EquityCore and

Core+

HYFixed Income

EAFE

Global Equity

InternationalEquity

Long Duration

Commodities

Domestic Equity

2010 Expected Search Activity

2 0 1 1 E x p e c t e d

S e a r c h A c t i v i t y

Note: International equity is ACWI ex-U.S. equity.



Catalysts for Change: Outcome-Oriented Drivers

Increasingly, investment consultants servicing institutions believe a new framework designed to

create outcomes, rather than built on simple asset allocations, will drive search activity. This means

risk budgeting and return attribution likely will play equal roles in future portfolio construction,influencing policy reallocations.

Inflation appears to be the most influential factor driving institutional investors to separate portfolios

into return-seeking and risk-mitigation allocations, rather than simple splits between stocks and

bonds. As in 2010, more than 80% of surveyed consultants believe inflation protection will be either

a significant or moderate focus of search activity during 2011; more importantly, more than one-half

of consultants believe search activity related to inflation risk will increase over 2010 levels.



Inflation risk drove increased search activity for commodities managers in 2010, as investors sought

real assets. Consultants expect this trend will broaden in 2011 to embrace a wider array of illiquid,

longer-dated asset classes, such as property and private equity, which are more immune to inflating

currencies. Respondents expect search activity in private equity to focus on niche strategies rather

than large buy-out funds.

Such fears are particularly palpable among U.S. corporate defined benefit plans. Nearly all consultantsfocused on corporate DB plans expect a significant focus on inflation-related search activity in 2011,

with more than 40% of consultants focused on the corporate sector predicting an increase in

mandates designed to protect portfolios from inflation. This dovetails with the growing interest in

liability-driven investing, in which more than half the consultants focused on corporate pensions

predict an increase during 2011. It also adds fuel to the trend of investment outsourcing: delegating

management of the entire pension plan to a third party able to provide total portfolio management that

anticipates and mitigates inflation and longevity risk. Nearly one-half of the consultants focused on

corporate pensions predict increased interest in investment outsourcing during 2011.

Search Activity Characteristics

Isolating search activity for new allocations, as opposed to searches for replacement managers

on existing mandates, shows the true extent to which “alternatives” are becoming mainstream.

Consultants report that a wide majority of searches for hedge funds, private equity, real estate,

and commodities—usually defined as “alternatives”—continue to represent new mandates,

reflecting a secular shift from benchmark-driven portfolios to less correlated instruments.


Search Activity by Risk Focus, 2011

Exhibit 4

Significant Increase Moderate Increase Little/No Change

Moderate Decrease Significant Decrease

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%

Inflation Risk

Emerging Market Risk

Interest Rate Risk (Duration)

Currency Risk

Credit/Spread Risk

Equity Risk

Illiquidity Risk

Percentage of Respondents




7

Consultants believe globalization will be another driving force in 2011 search activity. More than

one-third of respondents indicated emerging markets equity would be a significant focus of 2011

mandates, the highest result reported for any asset class. More importantly, while consultants

predicted less search activity for global equity mandates than for ACWI ex-U.S. mandates, most

of the global equity searches reflected new mandates, while ACWI assignments focused more on

manager replacement. The biggest loser remains EAFE, where most of the flagging search

activity appears centered on turnover rather than increasing allocations.

Consultants’ focus on EME and EMD is likely partly cyclical, but also indicates a more secular

shift. Emerging markets currently face capacity constraints, creating fragmentation among

providers. This has encouraged several consultants, particularly those focused on large clients, to

seek out emerging markets specialists who can add value. Moreover, in the long term, most

investors believe emerging markets will represent the majority of equity market capitalization and

a sizable proportion of debt markets worldwide, spurring a shift to more globalized benchmarks

and portfolios.


Expected Proportion of Search Activity from Manager Replacement by Asset Class, 2011

Exhibit 5

0-20% 20-40% 40-60% 60-80% 80-100%

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%


Emerging Market Debt

Hedge Funds (including Funds of Hedge Funds)

Emerging Market Equity

Commodities

Real Estate

Private Equity

U.S. High Yield Fixed Income

Global Equity

U.S. Long Duration Fixed Income

Other U.S. Fixed Income

ACWI ex-U.S. Diversified Equity

EAFE Equity

U.S. Core and Core-Plus Fixed Income

U.S. Equity





Expected Investor Preferences, 2011

Exhibit 6

Strong Preference Option A

Moderate Preference Option A Moderate Preference Option B

Strong Preference Option B

-50%-100% 0% 50% 100%

Pension Consultants

Absolute Return

Active

FoPE

FoRe

Fundamental

FoHF

Option BOption A

Benchmark Return

Passive

Direct PE

Direct RE

Quantitative

Direct HF

-50%-100% 0% 50% 100%

E&F Consultants

Absolute Return

Active

FoPE

FoRe

Fundamental

FoHF

Option BOption A

Benchmark Return

Passive

Direct PE

Direct RE

Quantitative

Direct HF


Strong Preference Option A

Moderate Preference Option A Moderate Preference Option B

Strong Preference Option B






Other investor preferences remained largely unchanged from 2010 with two key exceptions:

1. Shifting demands for funds of hedge funds. Consultants focused on larger investors, as well

as those focused on non-profit funds, expect more searches for direct investments in hedge

funds than they did in 2010. This reflects three realities. First, most North American

institutional investors selected a core fund of hedge funds in recent years, and few are yet

convinced they need a change. Second, and more importantly, larger investors now seek

more specialized FOHF strategies in place of, or in addition to, a diversified FOHF mandate.

This challenges many FOHF vendors who do not offer a focused product. Finally, larger

institutional investors—particularly well-funded non-profit funds—still seek to avoid higher

fees and pooled vehicles offered by FOHFs. FOHFs remain core investment vehicles among

smaller pension plans who lack resources to select or access direct hedge fund investments.

Additionally, investors increasingly are using outsourcing firms to provide exposure to a

portfolio of hedge funds.

2. Tentative interest in quantitative investments. Underperformance of quantitative strategies in

recent years has discouraged consultants from recommending such portfolios. The robust

market performance of 2010 seems to have convinced some consultants that more structured

approaches to stockpicking will once again add value. Such responses, however, largely

remain linked to enhanced indexing strategies, and appear to have manifested mostly among

more specialized consultants, especially those focused on non-profit funds. Whether investor

interest in quantitative strategies with higher targeted tracking errors will truly manifest in the

short term remains to be seen, given the headline risk many quantitative strategies incurred

in recent years.

Defined Contribution

Consultants serving corporate clients—the cohort most involved with the shift to defined

contribution plan provision—increasingly have focused on target-date retirement funds, which

the Pension Protection Act of 2006 encourages as default investment options for participants.

Target-date and target-risk funds will attract more than 80% of the new inflows into defined

contribution plans between now and 2020. Consultants are emphasizing passive TDRF vehicles,

as mid-sized plan sponsors seek to rid themselves of manager-selection risk. Respondents expect

substantially less interest in packaged active target-date funds, where many believe the market

has started to consolidate among bundled offers and a few large investment-only providers.

Consultants also expect further search activity regarding customized target-date vehicles. Fears

regarding inflation have convinced a growing number of corporate DC plan sponsors, particularly

those with more than $1 billion under management, to explore creating tailor-made target-date

options that include a broader exposure to real assets than current off-the-shelf funds offer.

Nevertheless, consultants continue to expect significant turnover business from the large, if

shrinking, menu of stand-alone mutual funds within defined contribution plans.




Expected Defined Contribution Search Activity, 2011

Exhibit 7

High Focus Moderate Focus

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%

Stand-Alone Products

Packaged TDRFs - Passive

Customized TDRFs - Internal

Customized TDRFs - 3rd Party

Stable Value Replacement

New Stable Value Product

Retirement Income

Packaged TDRFs - Active

Target-Risk Funds

Managed Account Providers


Note: Sample only includes consultants focused on corporate pension plans.


Conclusion

Consultants indicate that asset management firms servicing North American institutional investors

face an increasingly competitive environment for 2011 and beyond. As traditional style boxes and

asset classes, outmoded by the rising emphasis on outcomes, fade away, investment managers

who fail to adapt to changing investment frameworks will suffer from slower growth. Consultants

continue to predict high turnover rates in core asset classes such as domestic equities, core fixed

income, and EAFE stocks, indicating a high level of dissatisfaction with incumbent providers,

most of whom are benchmark-tracking.

Managers able to provide non-correlated portfolios that improve an institutional investor’s excess

return in various and volatile market conditions will win business and improve their long-term

profitability. This means further changes in the league tables of leading institutional asset

managers during the next few years, as new players better positioned to take advantage of shifting

investment policies take business from less nimble firms still wedded to legacy approaches to

portfolio construction.



April 2011 Old Wine in New Bottles

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1



John F. Casey, Chairman

Kevin P. Quirk, Partner

David J. Bauer, Partner

Daniel Celeghin, Partner

Grace L. Cicero, Partner

Jeb B. Doggett, Partner

Yariv Itah, Partner

Benjamin F. Phillips, Partner

Casey, Quirk & Associates provides management consulting services exclusively to

investment management firms. The firm specializes in developing business strategy,

enhancing investment practices, and crafting distribution plans. The firm draws on more

than 40 years of experience in delivering value to its clients and partners through a

unique combination of deep industry knowledge and experience, solutions-oriented

thought leadership, and a proven ability to influence change within organizations. Casey

Quirk publishes a series of thought-leadership papers on topics of interest generated by

ongoing industry research. To discuss these survey findings, please contact:

Yariv Itah Benjamin F. Phillips Philip Kim, CFA

Partner Partner Associate Director

[email protected] [email protected] [email protected]

203-899-3010 917-476-2140 203-899-3012

Analyst team: Michael D. Chia, Jonathan L. Doolan, Jason D. Roche

Casey, Quirk & Associates

17 Old King’s Highway SouthDarien, CT 06820

www.caseyquirk.com

eVestment Alliance (eVestment) is an innovative, web-based provider of comprehensive

investment information and analytic technology. eVestment delivers extensive data through

robust, user-friendly products with an unparalleled commitment to client service.

Through its online eVestment Global Database, eVestment captures the most

comprehensive dataset in the industry and distributes all information via its fully web-

based eVestment Analytics system, a platform which has set the software standard foronline manager comparisons, research, and competitive intelligence. Drawing upon its

data management expertise, eVestment has successfully launched its powerful eVestment

Exchange system to address the industry's redundant data request problems by

automating the transformation and precise update of manager data to multiple databases.

Built on the industry's most complete database, eVestment's flexible analytics and custom

data automation tools enable clients to conduct more thorough research, generate more

insightful analysis, and significantly improve overall efficiency.

eVestment's diverse clients include leading investment consultants, asset managers, plan

sponsors and other financial organizations. It was founded in 2000 and is headquartered

in Atlanta, GA.

For more information, please visit www.evestment.com or contact us directly.

Old Wine in New Bottles:2011 Consultant Search Forecast

April 2011

casey quirk - 2011 consultant survey

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