Fair Value Implications for the Asset Mix of a Pension Fund

Extraits de l'exposé

[...] More important however, is the fact that conditional indexation significantly lower the probability of under funding. If the current asset mix is regarded as presented by portfolio the probability that the funding ratio is below 1 on the 5 year horizon drops by more than one half as a result of granting indexation conditionally. The same holds for the longer horizon. Figure compares the distribution of the funding ratio in the cases 60 Approaches to a stable funding ratio conditional and unconditional indexation grants on the five year horizon. [...]

[...] Other methods can contribute to stabilize the funding ratio under the new FTK as well. I Management Summary A duration match of the fixed income part of the portfolio to the duration of the liabilities implies that the effect of small interest rate changes will be exactly similar thus reducing funding ratio volatility. This approach has no effect under the current liability valuation method since liabilities are presently not affected by interest rate changes. A cash flow matching strategy in which the APF enters into a swap contract with a counter party that provides a fixed return in exchange for an agreed upon floating return results in an exact cash flow match for the pension fund, hence eliminating the interest rate effect on the volatility of the funding ratio. [...]

[...] Since, in a defined contribution plan, a firm makes no promises to employees regarding the amount of funds that will accumulate over time the employees themselves bear the risk of the performance of the chosen investment instruments. In many situations employees themselves are allowed to make their own investment decisions. In the end the person receiving the pension benefits is bearing all the risk for the chosen investment strategy. In a defined benefit plan on the other hand the pension claims are the foundation. That is, the employer promises to pay a certain amount at retirement. The amount to be paid is in general related to the employee's salary level. [...]

[...] Increasing costs of pension plans lead to an equal increase in a companies wage expenses and are from a competitive point of view often not desirable. There is also the possibility that a sponsor no longer can or will fulfill his pension payment obligations. Political risk refers to the fact that the task of pension funds is to contribute to pensions in addition to the system of social security. Shifts in the system of social security are therefore likely to influence the demands on the pension funds. The final source of risk is the actuarial risk. [...]

[...] The parameters , and can be estimated from ( 4.14 ) with least squares techniques. A complicating factor is that there is no guarantee that the parameters estimated by ( 4.14 ) satisfy ( 4.17 That is, under ( 4.17 ) the estimate for the b12 should equal the appropriate unit vector for the one- year interest rate in the state vector. There are however methods to circumvent this problem. One way is to impose restrictions on the chosen state vectors and optimize the selected parameters given these restrictions. This method is very inefficient. [...]