Inflation hedges may be pointless: ECB

Bloomberg

The European Central Bank’s (ECB) latest round of easing sent a signal to institutional investors that their inflation hedges may be growing more pointless by the day.
In the northernmost corner of the euro zone, a $51 billion pension fund says ECB President Mario Draghi isn’t giving his industry much hope that things will improve.
“So far, the less you’ve hedged, the better off you’ve been,” Reima Rytsola, the chief investment officer of Varma Mutual Pension Insurance Co, said in an interview in Helsinki after the ECB presented its latest stimulus package. “And the more exposure you’ve taken duration wise, which is the inverse of an inflation hedge, the better off you’ve been.”
“And when you listen to Draghi, you certainly don’t get the impression that inflation is about to come back,” Rytsola said. “So it’s pretty severe. And I’m not very optimistic that the ECB’s latest measures will do much to change the inflation outlook.”
The absence of inflation is just one of a number of unsettling signs that has funds like Varma worried about the implications of the current monetary environment. Far from reviving consumer-price growth, persistent ECB stimulus seems mainly to have created higher asset prices, making it increasingly difficult for pension funds to generate the returns they need to cover future liabilities.
Rytsola says he just keeps adding risk, trying to “harvest the illiquidity premia” where it can be found.
He’s selling investment-grade bonds and buying alternative assets like real estate and infrastructure, but everything comes at a price.
“Due to super stimulative monetary policy, all assets have become expensive,” Rytsola said. “We don’t expect to find any free lunches, but it’s getting really difficult to find any asset classes that don’t seem to be expensive in some way. So that’s the dilemma.”
He says that “most of the tools needed to adapt to this environment have already been used. Just as the ECB is using the same tricks, so are we.” The fund uses external managers for about half its investing, and they “mainly handle the less liquid assets,” Rytsola said.
“And in this zero interest-rate environment we’ve gone more over to a passive investment style than an active one. Especially with global equities,” he said. “And that’s probably reduced a little our use of external managers.”
Varma manages employment-related pensions of about 900,000 Finns.