Central banks, among the most conservative asset managers in the world, are buying more stocks because of the paltry returns and negative yields available from top-rated sovereign bonds.
It is a move that may at first seem counterintuitive given that most are required to focus on capital preservation and take little risk to ensure quick access to national hard currency stockpiles in the event of a national emergency.
There is also a degree of irony in their finding scant attractiveness in low-yielding fixed income, which they themselves helped engender with rock bottom interest rates.
But changing tack they are - at least some of them.
Israel's central bank started buying equities this year, investing 2 percent of its foreign exchange reserves in U.S. stocks. Eventually, it plans to raise this to 10 percent, or nearly $8 billion.
South Korea's central bank's share of stocks in its reserves grew to 5.4 percent last year from 3.1 percent in 2009 and the Czech Republic's bank has increased its equities holdings to 10 percent of its foreign reserves over the past three years.
"The goalposts have been moved," said Gary Smith, head of official institutions at BNP Paribas Investment Partners, pointing at very low to negative yields on bonds issued by the United States, Germany and other sought-after sovereigns.
"If risk-free assets start to be riskier, what we used to view as risky assets, like equity, appears relatively less risky ... The push away factor is negative yields."
Germany and even France are among the top-rated sovereigns issuing debt at negative yield, meaning investors will not get all their capital back. There is also the fear of major sell off at a later date.
By contrast, the S&P 500 offers on average a dividend yield of 2.2 percent, half a percentage more than 10-year U.S. treasuries. For two-year U.S. bonds, the real yield - nominal yield minus inflation - is negative by about half a percentage point.
"The share of equity (in central banks reserves) five years ago was almost zero ..., There is significant potential for the equity allocation to grow," BNP Paribas' Smith said.
Stocks may still be only a tiny fraction of overall foreign exchange reserves, estimated by the International Monetary Fund to be in excess of $10.5 trillion in the second quarter of 2012, but even small increases in share can equate to vast sums.
Czech National Bank board member Eva Zamrazilova says her country chose in the mid-2000s to buy stocks because it had reserves beyond its monetary policy needs. It has increased the exposure gradually from 2008 to 2011.
"Bond yields are very low in absolute terms and dividend yields are exceeding bond yields," Zamrazilova told Reuters, adding that the central bank had maintained a "stable market risk profile" while buying stocks.
The Czech bank defines itself as a "risk-aversed investor" using a purely passive management, simply tracking the likes of the MSCI Euro, S&P 500, FTSE 100 and Nikkei 225 <.N225>.
"Equities are an efficient diversifier with a potential to enhance returns (equity premium) and smoothen volatility of returns (negative correlation)," Zamrazilova said.
Graphic on asset performance http://link.reuters.com/muc46s
U.S. dividend yield vs. bond yield http://link.reuters.com/dat23t
Buying equities is growing in parallel with the increase in foreign exchange reserves, said Patrick Thomson, global head of sovereigns at JP Morgan Asset Management.
"It's mostly the large reserve holders, people with excess reserves ... diversifying and looking for higher yield than currently available in the bond markets," Thomson said, adding that his firm advises reserve managers to diversify to account for the risk of negative return on bond portfolios.
Most central banks do not spell out where and how they invest their reserves. Buying equities is not a traditional way to manage reserves and some who could afford it decide not to so, Thomson said, but Asian central banks, in particular, have been fairly active in their reserve management policies.
Reserve managers' investments in equities usually start with large global brands, he said.
"It's global to begin with but once they become more comfortable we've seen strong interest in emerging market equity over the last couple of years. That's a fairly significant asset allocation change, taking advantage of growth in those economies."
Investing in equities clearly has its risks and the Swiss National Bank, which had 9 percent of foreign currency investments in stocks last year, saw price losses on equity exceed dividends, the bank said in its annual report.
Still, its report said that share price risk "contributed very little to total risk" in contrast with gold prices and exchange rates because the portfolio only accounted for nine percent foreign currency investments.
Sixty percent of reserve managers consider that equities are more attractive than a year before, according to a survey of 54 central banks, who control 49 percent of global reserves, carried out in January by Central Banking Publications.
"Overwhelmingly reserve managers feel their central bank need to diversify - or in some cases resume more active diversification. This is their dominant long-term reaction to the crisis," the survey published in April said.
(Graphics by Scott Barber. Editing by Jeremy Gaunt.)