Ageing populations face new challenges

The study of the subject is sometimes considered a rather dull and predictable science, but ignore it at your peril. It can provide reliable insights into the evolution of clients’ needs and the identification of new investment opportunities.

For most developed societies, that future is one where the certainty of living longer is set against the uncertainty of generating enough income to do so comfortably. We have moved away from defined benefit to defined contribution pension schemes – what is in the pot at the beginning of retirement has to last however long you live.

The big question is what do you do with that pot to make it last?

Whether you are investing in inflation-protected or conventional gilts, your real returns are likely to be very poor; for instance, long-dated, inflation-protected gilt yields are close to -1 per cent. If bonds can’t provide the income that they did in the past then where do you go?

A move even further into equities would probably be considered irresponsible, although it might be the right thing to do from a 10 to 15-year perspective. But for the adviser, the risk of getting it wrong in the short or long term far outweighs the benefits of being right. So providing an ageing population with an income can seem an almost impossible situation.

It is estimated that the proportion of the world’s population aged 60 or more is set to accelerate. In 2013, the number of people above 60 years old stood at 841m, quadruple the number who lived in 1950. By 2050 this will have tripled to more than 2bn elderly people – already exceeding the number of children in 2047.

Traditional areas of investment are a bit stuck and there is a need to find new ways of engaging profitably with the world – other than substituting equities for bonds Peter Elston, Seneca Investment Managers

But this trend also offers opportunities. An ageing population in developed countries can be linked with major investment opportunities in healthcare, wealth management and lifestyle. There are also opportunities in developing countries around the emerging consumer, technology and infrastructure sectors.

What is clear is that population growth and demographics offer up as many opportunities as they do challenges. Change is ongoing and profound, and it seems clear that the only way to make money for clients is to combine an understanding of the structural forces shaping our future, with a strong value-oriented analysis of companies and markets.

Traditional areas of investment are a bit stuck and there is a need to find new ways of engaging profitably with the world – other than substituting equities for bonds. One area where there is considerable potential is so-called ‘specialist assets’, where there are more stable income streams and higher yields than in equities.

Aircraft leasing is an example of a specialist asset. Typically, the asset-leasing vehicle owns passenger aircraft, which it leases to airlines. This business used to be done within the mainstream financial industry, but the sector has opened up to new players, giving direct access to this opportunity rather than by owning shares in a bank.

These investments have grown, partly because banks have had to step back and strengthen their balance sheets since the global financial crisis, creating opportunities for others to step in and take on aircraft leasing. The vehicles are yielding a high 8-9 per cent, but those yields do not come from risk-free assets. Risks include low terminal value of the aircraft or insolvency of the airline.

However, these risks are idiosyncratic and the way to address them is to diversify across a number of these holdings; not just asset leasing but other types such as peer-to-peer lending, real estate investment trusts, renewable energy and infrastructure funds. Investing in enough of these can reduce the risks associated with one particular investment.

Not being able to rely on bonds means that we all have to work that much harder to get an income in retirement. Safety nets are being removed and lots of risk is being transferred to individuals and their advisers.

Demographics provide a remarkably predictable way to gauge the changes in market requirements and also highlight new investment opportunities. But seeking out these higher-yielding prospects may require investors to engage managers with the necessary resources and expertise to manage the risks and deliver a reliable income.

Peter Elston is chief investment officer at Seneca Investment Managers