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IPE special report May 2018

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Dutch funds’ duration lengthens, DNB says

NETHERLANDS - Pension funds with an invested capital of between €100m and €10bn have seen the average duration of their portfolio go up by one and a half years, the Dutch central bank (DNB) said today.
 
In its second-quarter report De Nederlandsche Bank also announced that the coverage ratio, calculated on market value, rose in the second quarter by 2% to 140%.
 
This was due to positive markets and rising bond yields. "Hence the effect of the interest on the coverage ratio has been positive in the past three quarters," the DNB said.
 
Also the DNB mentioned the decreasing of the mismatch-risk: "To limit the influence of the market fluctuations on the financial position, many pension funds are considering a review of their investment strategies."
 
In particular pension funds are looking at reducing their duration gap: the reduction of the duration difference between assets and liabilities.
 
The gap is caused by the fact that liabilities often have an average duration of about 15 years, whereas the duration of the average bond portfolio is around five years.

Because of this funds are running a mismatch risk and the market value of the liabilities reacts more strongly to changing interest rates than the assets.
 
According to the DNB, there is no indication that pension funds are decreasing this gap by investing in more long-term bonds instead of stocks.
 
Within existing bond portfolios it is possible to exchange short-term bonds with longer-term ones. Also pension funds can use interest-rate swaps or swaptions.

In practice, the pension sector, and in particular mid-range pension funds, has increased the average duration in the last year, the DNB said.

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