Tail Risk Worries Institutional Investors

Terry Flanagan

Institutional investors globally believe tail-risk events, such as oil price shocks, new asset bubbles or geopolitical tensions, are becoming increasingly frequent due to the interconnectedness of global financial markets, according to the findings of the third annual Global RiskMonitor survey by Allianz Global Investors.

Tail-risk has become a recurring topic of discussion since 2008, when investors were reminded that outlier events carry the potential for major market disruption and occur more frequently than normal bell curves would have us believe. Yet, traditional portfolio construction strategies leave investors unprepared for the frequency of such events.

Nearly two-thirds (66%) of the 735 institutional investors surveyed think that tail-risk has become an increasing worry since the financial crisis. The majority of respondents, though, rely on traditional asset allocation and risk-management strategies to protect their portfolios with 61% utilizing asset class diversification and 56% geographic diversification. With the inter-connectedness of markets, such diversification will become less effective in mitigating for drawdown risk. In fact, only 36% believe they have access to the appropriate tools or solutions for dealing with tail-risk.

The results of this survey reveal an important paradox: while almost two-thirds of institutional investors have become increasingly worried about tail risk events since the financial crisis, a far smaller proportion are confident that they have access to the appropriate tools or solutions to deal with such events.

“With the anticipation of more frequent tail-risk events, there is an important role for active investment managers in helping clients to understand, classify, measure and ultimately mitigate the downside impact from these outlier events as well as providing opportunities on the upside,” said Elizabeth Corley, CEO of AllianzGI.

Tail-risk management is extremely challenging for many investors globally. Investors recognize the need for improvement to be better prepared for tail-risk events, but 56% believe tail-risk hedging strategies are too expensive. In addition, Institutional investors believe that tail-risks themselves (35%) and alternative products developed to manage them (36%) are not understood well enough.

“Investors are left unprepared and vulnerable to a plethora of threats when they utilize traditional risk management strategies,” said Arun Ratra, head of global solutions at AllianzGI. “In today’s volatile market environment, investors need tools and solutions that will protect them from the threats we can see coming and the unknown threats yet to peak their heads. At AllianzGI, we are focused on helping clients to create the solutions that will deliver the outcomes they need to meet their investment objectives.”

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