How can insurance investors achieve effective inflation protection, while also benefiting from a high return on capital, a regular income and a low volatility return profile?
For insurers with long-term investment horizons, the answer could be provided by investing in forestry, via a portfolio allocation to timber assets.
A timber allocation provides several benefits
High return on capital
Forestry ranks highly from a return-on-capital perspective under the Solvency II standard formula, offering a comparable return on capital to direct lending.
Attractive risk and return profile
Our risk/return analysis suggests that making a 1%-5% strategic allocation to timberland from existing allocations could improve returns and reduce balance sheet risk for a typical European life insurer.
Risk/Return impact of reallocating 1%-5% of current portfolio allocations to selected asset classes
Low correlation to other assets
Timber can bring strong diversification properties to portfolios. In our regression-based factor model, timber, along with infrastructure equity, has a low R-squared score, which means historical returns are not well explained by most standard investment factors. In turn, this means that these asset classes arguably bring new factor exposures to a portfolio.
Asset class correlations to standard investment factors
Defensive exposure in volatile markets
In historical market stress events, exposure to diversifying risk factors not found in public markets has helped forestry to perform well compared to the majority of risk assets, with only modest losses (or even modest gains) produced through the biggest crises and rising rate scenarios of the last 20 years.
Historical asset class stress tests
Forestry exhibits a strong positive correlation to inflation, which is helpful in the current inflationary economic environment.
Correlations between asset classes and inflation
Alignment with sustainability goals
Investing in the preservation of forest land results in environmental and societal benefits, which align with many clients' corporate values. Forestry, for example, provides an effective and scalable mechanism for sequestering atmospheric carbon, and represents just under 40% of the current supply of carbon offsets at a time when many businesses are looking to achieve low or even net-zero carbon emissions from their operations.
Global carbon emissions and offsets
The strategic case for timber investing
Timber provides a middle ground between liquid and illiquid alternatives. While levels of liquidity can be relatively low, timber has attractive long-term return potential and can generate a regular income, which can be particularly valuable in periods of high inflation and rising interest rates. Timber's ability to offset greenhouse gas emissions through the sequestration of atmospheric carbon provides additional sustainability credentials to any portfolio allocation.
At J.P. Morgan Asset Management, our sustainable timberland investor and forestry management company Campbell Global offers expert timber investment solutions.
For Professional Clients/ Qualified Investors only – not for Retail use or distribution.