Some of the hype surrounding alternative assets is subsiding, at least among pro money managers, suggests new research from consulting firm Greenwich Associates.

The 2004 report on continental European investment management notes that more than a third of continental European pension funds do not hold enough assets to fully fund estimated future benefit obligations — despite the market recovery of 2003 and the fact that many corporate plan sponsors made hefty contributions to their pension plans last year.

Despite the need to boost returns, Greenwich Associates’ 2004 research reveals that many institutions have failed to follow through with aggressive plans from past years, especially with regard to increasing allocations to equities and alternative asset classes.

“For three years in a row plan sponsors and other institutional executives on the Continent have been saying that they were going to make much more use of this high-alpha class of assets, but when it came time to put the chips down, many lost their nerve,” says Greenwich consultant Chris McNickle.

Notwithstanding ambitious projections, European allocations to private equity, which amounted to 1% of total assets in 2003, were virtually unchanged in 2004, and overall allocations to hedge funds also remained flat at roughly 1%, Greenwich reports.

In hedge funds, moreover, current expectations of institutions appear relatively modest. “Although those expecting their hedge fund allocations to be higher by 2006 outnumber those expecting the contrary by a wide margin and 23% expect to hire a hedge fund manager in the next 12 months, they are only looking for an annual rate of return of 7.9% over the next five years,” says McNickle. “This lags expectations for equity markets.”

Last year, institutions reported that they intended to increase equity allocations. These predictions failed to pan out for the most part, as many institutions sold equities into the rising market to offset prior losses, re-stabilize portfolios, and shore up solvency ratios. The overall proportion of equities in the typical Continental institution’s portfolio inched up from 20% at the end of 2002 to 22% at the beginning of this year, despite the fact that most of the world’s sizeable stock markets rose 30% or so last year.

“Given the international geopolitical situation, the level of energy prices, and the prospect of rising interest rates, institutions are understandably skittish about increasing their use of equities,” explains Greenwich Associates consultant Berndt Perl. “But Greenwich Associates believes the shift in medium-term asset allocation towards equities is on the right track, and we very much hope they will follow through.”

“Continental plan sponsors deserve to be complimented for the responsible steps they have taken to stabilize their situation after the market debacles of 2000 to 2002,” says McNickle. “But Europe’s institutional investors should not be lulled into a false sense of security — they have very conservative asset allocations and aging workforces that will continue to increase liabilities. While their commitment to their final salary plans is commendable, they should note that in the U.K. similar conditions have resulted in the closing of half of all defined benefit plans to new employees.”