Enhanced-index assets plunge

Enhanced-index assets managed on behalf of U.S. institutional tax-exempt investors fell nearly 20% in the first half of the year, according to data collected by sister publication Pensions & Investments.

Those managers — many of whose performance were hurt by the credit crunch that started 13 months ago — reported a 19.7% decline, to $346.9 billion, in total U.S. institutional tax-exempt enhanced-index assets under internal management as of June 30. As of Dec. 31, those managers ran $432 billion in index assets.

Overall, total worldwide index assets — including enhanced portfolios and exchange traded funds — declined to $5.4 trillion as of June 30, down 4.4% from $5.65 trillion on Dec. 31.

The drop came during an undeniably rough market environment: The Russell 3000 Index returned -11.05% and the Morgan Stanley Capital International Europe Australasia Far East Index returned -10.58% for those six months.

Not all was bad news, however. Managers reported strong interest in international index portfolios.

While the drop in interest in enhanced-index portfolios has been noted before, the depth of the plunge was much deeper than previously reported. In the six-month period ended Dec. 31, enhanced-index assets managed on behalf of U.S. institutional tax-exempt investors had declined 3.1%.

Barclays Global Investors of San Francisco, the largest enhanced manager, reported $116.2 billion in U.S. institutional tax-exempt internal enhanced-index assets as of June 30, a 17.8% decrease from $141.4 billion as of Dec. 31.

The Goldman Sachs Group Inc. of New York, the second-largest enhanced-index manager, saw its U.S. institutional tax-exempt internal enhanced-index assets plummet 32.7%, to $25.2 billion as of June 30, from $37.5 billion on Dec. 31.

However, Prudential Financial Inc. of Newark, N.J., experienced a slight gain in its U.S. institutional tax-exempt internal enhanced-index assets, reporting $24.6 billion as of June 30, a 1.7% increase from $24.2 billion as of Dec. 31.

The rest of the top five enhanced managers reported drops.

Pacific Investment Management Co. of Newport Beach, Calif., reported $21 billion in U.S. institutional tax-exempt internal enhanced-index assets as of June 30, a 19.6% decrease from $26.1 billion reported on Dec. 31.

Also, TIAA-CREF of New York reported $20.8 billion in U.S. institutional tax-exempt internal enhanced-index assets as of June 30, an 11.9% decrease from $23.6 billion on Dec. 31.

Overall, index managers are benefiting from a move away from risk as well as a shift toward passive international equity portfolios.

ACTIVE TO PASSIVE

“What we’re seeing is a few things. One is a flight [to] quality; we’re seeing plans moving from active managers to passive managers,” said Amy Schioldager, a managing director and head of U.S. indexing at Barclays.

Barclays reported $1.83 trillion in worldwide assets under internal index management as of June 30, a 5.4% decrease from $1.93 trillion reported on Dec. 31. The company reported $636.9 billion in international equity assets as of June 30, representing a decrease of 8.4% from $695.5 billion on Dec. 31.

Declines in stock values accounted for the drop. However, it is impossible to quantify how much equity performance dragged down assets under management because Barclays has clients around the world with varying benchmarks and base currencies.

“We’re seeing a broad asset allocation shift toward international equity. We see that across EAFE and emerging markets, and we’re seeing that in international small cap,” Ms. Schioldager said.

“They’re broadening their exposure to include small cap in international equity. We’re [also] seeing an increase in interest in global [real estate investment trusts] and frontier markets,” Ms. Schioldager said.

“Another thing we’re seeing is an increase in our global footprint from the standpoint of our client base,” she said. “We’re seeing non-U.S. clients increasing their exposure [to index strategies].”

Northern Trust Global Investments of Chicago experienced a large gain in its passive international equity assets. The company reported $75.7 billion in international index assets as of June 30, up 28.3% from $59 billion six months earlier.

Overall, the firm’s total worldwide index assets — at $276.7 billion as of June 30 — grew 3.3% during the first six months of the year.

Northern Trust’s success was due to two major factors, according to Alain Cubeles, senior vice president and senior investment strategist in global quantitative management. First, in the current environment, some plans are moving to index strategies from active ones to reduce risk.

“They are also reassessing the way they invest into non-U.S. index strategies. Typically, it was all MSCI EAFE,” Mr. Cubeles said.

“This is like going to the U.S. and only going into the S&P 500,” he said. “They’re broadening their exposure to the non-U.S. market” by going into international developed and emerging markets small cap, Mr. Cubeles said.

For all firms, international equity assets fell to $1.32 trillion as of June 30, from $1.36 trillion on Dec. 31.

SSGA INCREASE

At State Street Global Advisors of Boston, international index equity assets increased 8% to $363.8 billion as of June 30, up from $336.8 billion on Dec. 31. Total worldwide internally managed index assets were $1.67 trillion, up less than 1% from $1.66 trillion on Dec. 31.

“There has been a continued increase in global investing for U.S. investors,” said Arlene Rockefeller, executive vice president and global equities chief investment officer at SSgA. “The change here is that U.S. investors are global in terms of the portfolios instead of EAFE, picking up small cap and emerging markets.”

SSgA also posted a 15.85% increase in international fixed-income assets, reporting $131.5 billion as of June 30, up from $113.6 billion on Dec. 31.

The Vanguard Group Inc. of Malvern, Pa., reported $639.1 billion in total worldwide index assets as of June 30, a 2.7% drop from $656.6 billion on Dec. 31.

Vanguard was particularly strong in domestic fixed income and international equity, with gains of 11.5% and 1%, respectively.

“I think it’s the defined contribution plans that have driven some of our market-adjusted growth in fixed income and international indexing, including target-date [funds], which include fixed income and international equity,” said Gerry Mullane, principal and director of institutional sales at Vanguard. “In essence, [indexing] gives you that ‘never-having-to-say -you’re-sorry’ option to the plan.”

Bank of New York Mellon reported a decrease of 12.5%. The firm reported $164 billion in total worldwide index assets as of June 30, down from $184.2 billion on Dec. 31.

Beyond the top five, six of the 43 remaining managers that provided data as of June 30 experienced asset growth in the first half of the year.

Amalgamated Bank of New York saw the highest market-adjusted growth of the remaining plans, reporting $11.9 billion in total worldwide index assets as of June 30, a 14.4% gain over $10.4 billion reported on Dec. 31.

U.S. ASSETS LAG

U.S. institutional tax-exempt index assets were slightly behind the market.

Total U.S. institutional tax-exempt assets under internal index management fell 8.2% in the first six months of 2008, with $2.41 trillion as of June 30, down from $2.63 trillion. Those assets stayed close to the market indexes, with a market-adjusted decrease of 0.9%.

While the Russell 3000 and MSCI EAFE dropped sharply during the six-month period, the Lehman Brothers U.S. Government/Credit Bond Index returned 0.98% and the Citigroup Non-U.S. World Government Bond Index returned 5.7%.

Barclays reported $694.1 billion in internally managed U.S. institutional tax-exempt index assets as of June 30, a market-adjusted decrease of 2.5% from $768.7 billion on Dec. 31.

SSgA reported $677.6 billion in internally managed U.S. institutional tax-exempt index assets as of June 30, a market-adjusted decrease of 3.1% from $732.9 billion on Dec. 31.

Of the 48 managers that reported data as of June 30, eight reported actual gains in internally managed U.S. institutional tax-exempt index assets in the first six months of the year.

BlackRock Inc. of New York was the largest manager to report a gain, reporting $35.7 billion in U.S. institutional tax-exempt index assets as of June 30, a market-adjusted increase of 16.1% over $33 billion reported on Dec. 31 and an actual increase of 8.2%.

Meanwhile, total worldwide ETFs came in at $575.4 billion as of June 30, up from $570.3 billion. Although still primarily retail, that amount included $11.1 billion in institutional ETFs, down from $13.8 billion on Dec. 31.

Barclays, by far the largest provider of ETFs, reported $375.7 billion in worldwide ETFs as of June 30, a 7.9% decrease from $408 billion on Dec. 31.

However, its institutional ETFs increased.

Barclays reported $10.8 billion in institutional ETFs as of June 30, a 32.1% increase from $8.2 billion reported on Dec. 31.

Rob Kozlowski is a reporter for sister publication Pensions & Investments.