NETHERLANDS - Pension funds must evaluate mandates with fiduciary managers and asset managers regarding transparency, to ensure their boards are in control during a crisis, the Association of Industry-wide Pension Funds (VB) has recommended.
The VB's Investors Committee said in a report that adding checks and balances, together with an upgraded role for the risk manager, is the most important lesson pension funds must learn from the recent credit crisis.
In the VB's opinion, the role of the risk manager has been underestimated by asset managers until now, but the management of investment risks must be high on every scheme's priority list, so they are better prepared for any future crisis.
As well as considering the risk of underfunding, pension funds must also pay attention to liquidity risk, as scenarios in which large amounts have to be paid at short notice to cover hedges are real, argued VB.
"A 1% rise in interest rates would have forced the Dutch pensions sector to deposit €60bn in case of a full hedge," it pointed out.
Another recommendation from the VB is schemes should take into account very improbable but high-impact scenarios, such as deflation, inflation, stagflation as well as periods with poor equity returns.
To be able to anticipate fast changing economic conditions, asset allocation must be part of a continuing process based on permanent monitoring and frequent ALM-studies, rather than on a periodic review, advised the pensions body.
It added pension funds should primarily base their investment mix on risk sources, instead of on diversification of assets.
As risks have been proven to be much less measurable than assumed, models should be considered as an auxiliary tool rather than an absolute means, according to VB.
VB's investment experts further noted that the supposed correlation between asset classes can change following economic developments.
Officials said they still consider equity as an attractive long-term investment, but stressed that long periods without returns are possible so the risks are therefore mainly determined by the investment horizon.
That said, the Investors Committee noted that many pension funds have decreased their equity allocation by diversifying within their securities portfolio.
VB also argued the Dutch government could assist the creation of value-proofed pensions by issuing inflation-linked bonds.
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