In talking about influential investors, we often focus on active and hedge fund managers, about the individuals whose buying and selling could affect markets.
The quiet giants
Yet, the giants of the investing community are not individuals, they are institutional investors such as pension funds, mutual funds and insurance companies. For example, Warren Buffett (Trades, Portfolio)’s Berkshire Hathaway (BRK.A, Financial) (BRK.B, Financial) had total assets of $681.55 billion at the end of third-quarter 2017, which is a vast amount, but still several pension (and/or sovereign) funds are in the same league:
- Government Pension Investment—Japan: Total assets: $1.2 trillion
- Government Pension Fund—Norway: Total assets: $865.9 billion
- Federal Retirement Thrift—U.S.: Total assets: $443.3 billion
- National Pension—South Korea: Total assets: $435.4 billion
- ABP—Netherlands: Total assets: $384.3 billion
List from a September 2017 report by Pensions & Investment magazine and Willis Towers Watson.
Note the number of non-American names on this list. This reflects the global nature of the institutional investing universe, which often starts with national pension schemes.
And there are numerous mutual (and other) funds that also manage assets in the hundreds of billions of dollars range. These giants obviously must have a role in setting the tone of the market.
The institutional investor category takes in more than just pension and mutual funds: it includes insurance companies, banks, universities and more.
Pressure to perform
In some cases, in-house institutional fund managers make the decisions about investments, while in others, the investment function is outsourced to active, passive and hedge fund managers. Within the big funds, there are ongoing debates about the cost-efficiency and returns-effectiveness of insourced and outsourced.
Heads of big institutional investment funds can—and do—lose their jobs if they cannot bring in suitable returns. One of the best ways of optimizing returns, for them, is keeping costs down, as it is in businesses. There is no point in generating outstanding gross returns if the net leaves them looking bad.
Market movers
Rather uniquely, the managers of big funds have challenges because of their size. According to a September 2017 article at Wootrader, institutional investors account for 50% of all trades on the New York Stock Exchange. When they make trades, reports InvestorGuide, they usually make “block trades,” which involves buying or selling 10,000 shares at a time. In addition, they usually buy stocks trading for $10 and up per share.
If a fund buys a significant stake in a company too quickly, it will drive the price of the company’s shares up, making the average cost of entry higher. On the flip side, when funds sell, they may push down the market price, depriving them of anticipated gains. Favored targets have lots of liquidity.
Some individual investors look for opportunities by following the movements of one or more institutional investors. There are even entrepreneurs who have set up subscription tracking services that allow individual investors to keep tabs on the activity of institutional investors.
Value investors and institutional investors
For value investors, the key takeaway is most institutional investors like long-term positions because they fit the needs of their clients/participants. A pension fund, for example, might begin receiving contributions from plan members at age 20, keep accepting contributions for 45 years and then pay out retirement (deferred) income over the following 25 years. Generally, then, stocks with robust institutional investor interest could be taken as an indicator of quality.
And while institutional investors may occasionally take flyers on what look like hot opportunities, most of the time they try to stick to what Buffett calls great companies at great prices. Most professional fund managers who work that side of the industry recognize there are no miracles, and consequently try to find reasonably priced investments.
So value investors might follow selected institutional investors as part of their due diligence. However, just plain copying might prove harmful to their wallets. These giants also make mistakes, both in the stocks they pick and the managers they hire.
The biggest of the big
MarketWatch lists the following as the 10 largest mutual funds (with their total net assets):
- SPDR S&P 500 ETF (SPY, Financial): $306.67 billion
- Vanguard 500 Index: Adm (VFIAX): $235.23 billion
- Vanguard TSM idx: Adm (VTSAX): $200.75 billion [TSM and Tot = Total Stock Market]
- iShares:Core S&P 500 (IVV, Financial): $276.44 billion
- Vanguard Instl Indx;Inst (VINIX): $146.9 billion
- Vanguard TSM Idx;Inst+ (VSMPX): $134.62 billion
- Vanguard TSM Idx;Inv (VTSMX): $132.44 billion
- Fidelity Govt Cash Rsrvs (FDRXX): $131.72 billion
- Vanguard Tot I Stk;Inv (VGTSX): $128 billion
- Vanguard TSM Idx;Inst (VITSX): $121.14 billion.
America’s 10 biggest pension funds are, according to the 2016 Pensions & Investments / Willis Towers Watson survey:
- Federal Retirement Thrift: $485.6 billion
- California Public Employees (CalPERS): $306.6 billion
- California State Teachers: $193.8 billion
- New York State Common: $184.5 billion
- New York City Retirement: $171.6 billion
- Florida State Board: $$153.9 billion
- Texas Teachers: $133.2 billion
- Boeing: $107.4 billion
- New York State Teachers: $107.0 billion
- IBM: $101.6 billion
Of the 10 biggest American funds, just two come from the private sector; the remainder are all connected to government. With that comes a caveat about public sector pension funds; the Wall Street Journal says, “Decades of low government contributions, overly optimistic assumptions, overpromises on benefits and two recessions have left them with deep funding holes at a time when retirees are accelerating cash outflows. Estimates of their current combined funding shortfall vary from $1.6 trillion to $4 trillion.”
The article also points out pension funds trimmed their bond holdings after the 2008 crash to bulk up on securities. To some extent, that shift is now reversing as institutional managers, like the rest of us, wonder if the market has gone up too far, too fast. The Journal reports the California State Teachers Retirement System shifted $10 billion of equities into a mix of bonds and alternatives to help hedge their risks.
Value investors again may see an opportunity; as institutional investors pull back from stocks, there may be devaluations. In the event of a major, sustained correction in the markets, a rush from equities into fixed income and bonds may be expected to create many value situations. Not because the intrinsic value has dropped, but because the “smart money” has been found to be not so smart.
Conclusion
Institutional investors, including pension funds and mutual funds, are the biggest players in most financial markets. They control—literally—tens of trillions of dollars worth of assets. They are the quiet giants of all markets in which they operate.
When they buy and sell, they can produce waves that lift or lower the prices of the companies involved. Value investors who track this activity have another tool in their toolbox; institutional buying and selling can be a catalyst.
However, like the rest of us, institutional investors make mistakes at the level of buying or selling the wrong stocks and at the level of hiring and firing fund managers.
Knowing the giants are out there, and even observing the activities of a select few, could be useful for value investors.
Disclosure: I do not own shares/units in any of the securities listed here, and do not expect to buy any in the next 72 hours.
