Pension savers could be exposed to unforeseen risks due to the widespread adoption of passive investment strategies. Many individuals in workplace pension schemes, including Nest, do not actively choose their investments, with over 90% defaulting into strategies that primarily use low-cost index-tracking funds. Even those with self-invested personal pensions (Sipps) are increasingly opting for passive funds.
However, analysis from JPMorgan Asset Management suggests that index-tracking investments may be riskier than savers realise. While a passive approach offered diversified exposure two decades ago, this is no longer the case. The strong performance of a few large US technology companies has significantly skewed market indices. For instance, the US stock market now constitutes over 60% of the MSCI World Index, with the ten largest US companies, predominantly big tech, accounting for more than 40% of that allocation.
This concentration means that portfolios believed to be diversified are heavily reliant on a small number of businesses within the US tech sector. Similar concerns exist in bond markets, where the substantial issuance of US Treasuries now dominates fixed-income security indices. Consequently, a 60% equity and 40% bond strategy initiated in 2008 could now have over 80% equity exposure and 55% invested in the US.
Some investment experts also suggest that passive investment could heighten the risk of a major stock market crash by artificially inflating demand and driving some companies to unsustainable valuations.