GLOBAL – The head of Mercer Investment Consulting’s global practice says it is important to remember that asset/liability modelling is a tool for decision makers – not a process which produces the answer.

“ALM is a tool – not a solution,” says Tim Gardener in a research report. “Whichever asset/liability process is employed, it is important to remember that asset/liability modelling is a tool which provides help to the decision-makers.

“All too often it is regarded as a process which provides the answer,” he says, adding that the events of the last three years have highlighted the dangers of using asset/liability modelling as the “decision-maker”.

Gardener says a logical starting point for any investor is to identify “with some precision” what the ‘least risk’ asset allocation is.

He says that while in theory the concept is straightforward, in practice there is another key question to be asked. That is: how much risk is there in the “least risk” position? He notes that it may be impossible to define the liabilities unambiguously and that it may also be impossible to find assets which exactly match the liabilities.

“The key point to emphasise here is that ‘least risk’ is not ‘no risk’ and the difference could in some cases be a non-trivial issue,” he says.

He adds that this is an area where he might take issue with the pension scheme of UK retailer Boots, which shifted its entire portfolio into bonds. He says that “unanticipated longevity could cause the money to run out too early”.