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Sovereigns are dead, long live sovereigns!

Our research team visited a range of pension schemes, private banks and wealth managers towards the end of August, and found that low yields are encouraging many fund selectors to plan cuts in their European and US sovereign debt exposures (see graphs 1 and 2). Other investors, meanwhile, have already reduced their allocations in these areas to zero. “I don’t have any and I don’t want any,” said one Helsinki-based interviewee, when asked about his appetite for treasuries.

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Emerging market debt

Investors have a taste for higher-risk developing world bonds

This stance contrasts starkly with demand for emerging market government bonds, where Finnish fund selectors already have large allocations. The asset class received an enthusiastic response from interviewees, with four in five planning to increase their weightings further over the next 12 months (see graph 3). Investors are keen to learn more, in particular about the different opportunities available via local and hard currency strategies. They also want to explore the higher-risk/higher-yielding areas of developing world debt, including frontier market sovereign bonds and corporate securities.

Credit

High yield is likely to see further inflows from Finnish investors

Corporate bonds are popular in a broader sense, with half of the fund selectors we consulted expecting to bolster their allocations. Interviewees say debt securities issued by Finnish companies are attractive on a risk/return basis. However, they are most enthused by opportunities in high yield, with more than two- thirds planning to add to their weightings (see graph 4). Investors have high hopes for the sub-sector, with one interviewee forecasting double-digit returns over the next six months.

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Equities

European stocks are popular but US funds will see outflows

In line with many European markets, sales of Finnish-registered equity funds started 2012 brightly before suffering a sharp downturn. Data from the country’s central bank shows that equity funds achieved net inflows of almost €1bn in the first quarter, and then shrank by a similar amount in the following three months. This deterioration in risk appetite was also reflected in bond and money market fund sales, which increased significantly between the first and second quarters (see graph 5). Our research indicates that many Finnish fund selectors are likely to return to equities over the next year.

While investors are wary on the economic picture for Europe, they are upbeat on Continental stocks and more than half plan to increase their weightings (see graph 6). Of most interest are blue-chip firms with strong balance sheets and locally-based companies. Interviewees say Finnish exporters generate significant sales outside of Europe, and are cushioned somewhat from the eurozone crisis.
US equity funds are likely to see lower levels of demand. Fund selectors acknowledge the safe haven status of the asset class in relation to European stocks, but say the potential for attractive returns is lower as a result. Just one-fifth of interviewees expect to boost their allocations.

Emerging market stocks

Fund selectors plan to increase their use of global strategies

As with the fixed income universe, Finnish investors say they will focus most heavily on emerging markets when it comes to equities. Four in five of our interviewees are planning to increase their weightings to the asset class (see graph 7), owing to attractive demographics and valuations in the developing world. While this is likely to be mostly via global strategies, rather than region-specific products, investors display a particular interest in bolstering their Asia exposure. At least one interviewee also plans to increase his allocations to companies in Russia and Brazil.

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Alternatives

Some interest in hedge funds and Ucits absolute return

In relation to hedge funds, Finnish fund selectors express some interest in Asia-focused strategies with managers based in Hong Kong or Singapore. However, the majority of our interviewees use Ucits ‘hedge fund-lite’ products – a sector worth about €160bn according to data from Lipper. Two-fifths expect to increase their overall allocations to absolute return during the next year.

The economy

Investors support the single currency despite its problems

On the macroeconomic outlook, 50% of fund selectors are downbeat and none have a positive view – a marginal improvement on last year’s survey (see graph 8). While this stance is largely a symptom of the continuing eurozone crisis, interviewees remain supportive of the single currency project and say suggestions that Finland may seek to leave the euro and reinstate the markka have been over-hyped by the media.

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Investors note that the euro benefited the country in many ways during the past decade – in particular boosting exports of raw materials such as timber and metals. While there is a high probability of structural change in the eurozone, “the initiative will not come from Finland”, one interviewee said.

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