Fixing the Economy Could Break Pensions

Getting developed markets back on an even keel is the ambition for all financial regulators – but pension funds should realise they’re not part of the deal.

(September 28, 2012) — Political efforts to prop up developed market economies could spell even more trouble for pension funds that are already struggling with shortfalls, industry experts have warned.

Attendees at an annual pension conference, organised by Oxford University and Allianz Global Investors, heard how monetary policy designed to stabilise economies in flux could harm their funds further if they did not act quickly to mitigate potential problems.

Already investors have seen yields on government bonds issued by many developed markets plummet to below the rate of inflation, meaning they are eating away at real returns made on the rest of a portfolio. Government bonds have traditionally been a mainstay for pension funds due to their “low risk” characteristics, which have proved popular with regulating bodies. Perceived “safe haven status” and quantitative easing strategies have served to push down yields, although a rise in bond prices has offset some of these effects.

Professor Gordon Clark from the University of Oxford, who co-chaired the conference, urged funds to identify alpha and said he recognised the growing appetite for innovative solutions: “Pension fund liabilities have exploded and there are no signs of them receding any time soon. While equities have provided some recent brightness to pension funds, the imperative for alpha means that pension funds, both large and small, are looking at increasingly innovative investment strategies and even relatively small pension funds are embracing alternatives.”

However, Clark acknowledged the difficult balancing act of having to “manage short-term market dynamics while also devoting time and energy to considering the long-term viability of investment strategies, and thereby improving decision-making.”

Andreas Utermann, global CIO at Allianz Global Investors, added: “In this environment, it is all the more important not only to diversify investments across asset classes and currencies, but also to manage risks in a dynamic fashion.”

Attendees at a conference run by the National Association of Pension Funds in London this week were encouraged to adapt their portfolios to be able to weather future financial market storms. This could involve a range of options for hedging strategies to formulating an entire portfolio that would take advantage of potential upside, while managing downside risk.

At the conference in Oxford, Johan de Kruijf, president of the UWV Pension Fund investment committee in the Netherlands, emphasised the importance of higher returns and an active approach to risk management: “Despite having the highest levels of pension savings in the world, Dutch pension funds are faced with the same combination of regulatory, intergenerational and solvency issues as elsewhere.  Increasing contributions is not possible anymore. Pension fund boards must adapt their governance structures to cope with risks introduced by less liquid asset classes needed to generate returns.”