Wat niet weet, dat kan deren

Protection against events with major consequences

One cannot exclude risks fully or one stands still. Yet we cannot imagine the possible events that might occur. That’s why the ‘latest war’ is fought again and is acted reactively to events. It is recommended to hedge against rare events that bring about major consequences shoud they occur. For pension funds these events are related – but not limited to – the financial markets, given the vast amounts of money they invest on behalf their pension plan participants.  Protection against these events can be bought using put options, insurance or contracts.

Statistics and computer models as the only means to measure or manage risks , is strongly discouraged. The world is too complex to summarise in models. A pension fund covers itself against an interest rate that renders it unsustainable to carry out a socially acceptable penion.

A scenario describes the situation so that it’s clear what’s going on, outlining the various positions and possibilities for all stakeholders. For pension funds stakeholders include the plan participants , external supervisiory authorities, the board of trustees, companies or industry the pension funds works with, public opinion, media, service providers and other suppliers. What can this particular pension fund endure, what can it not sustain, what does it want to sustain, what needs to happen fort hat, what doesn’t, which risks play a role and how to avoid or manage those risks, what is the willingness to resists against your peers and the media? Play the ‘think the unthinable’game.

Risicomanagement in een instabiele economie

The purpose of a pension fund is to carry out a pension that is socially acceptable. The objective of risk management is to improve the robustness so that pension plan participants may expect stable monthly pension pay, and employers receive a stable pension premium bill. Robustness is realised when focussing on financial risks and finetuning these risks to the stated pension fund objectives.

The focus on financial risks is of the essence since financial risks pose the biggest challenge realising a stable and sustainable pension. Pension funds are made resilient against volatile financial markets.

Assest & Liability Management

Many if not all pension funds use asset and liability management (ALM) to shape their policy. ALM incorporates developments of important statistics (funding ratios , buying power, risk of underfunding) into a computer model. A very large number of scenarios is made in which economic variables such as interest rates and inflation numbers are put in. The model calculates the different scenarios which are then applied tot he pension fund, after which policy is formed.

ALM should not be the only steering wheel of pension fund policy. Data put into the computer model may not be accurate or representative. Moreover, the outcome of the ALM study depends on the selection of the data used as input fort he model. Models work fine under normal market circumstances but often not so well when markets are in turmoil or during a crisis.  

Event scenarios

The unstable economic environment can hardly be captured in a computer model. What are the chnces of an interest rate decrease, or inflation? Rather than assigning chance percentage points to a certain situation, event scenarios analyse different strategies. What might happen tot he pension fund under a scenario of deflation, stagflation, or strong economic recovery? Which imact do these scenarios have on the pension fund? Will it go under or will it remain fully funded? Event scenarios go beyond calculus and help devise a policy whereby te pension fund can bear any of these scenarios, without regard for the statistical chance an event might occur.

Recommendations for a robus pension (fund)

• Manage on the effectivity  of pension fund policy by making the pension fund objectives exlicit and setting a clear target for the minimum acceptable pension that should be realised under any event;
• Realise robustness of policy by managing the consequences of the policy;
• Use event scenario analysis to check pension fund policy on both the strategic and the implementation level on its impact;
• Realise efficiency in the implementation of pension fund policy by forming clear investment directives , strategic and tactical risk monitoring,  and by managing the objectives and conditions set by the pension fund.

Scenarioplanning vanuit beleggingsbeleid

Scenarioplanning voor pensioenfondsen bezien vanuit de custodian

Albert Röell, chairman of Kas Bank N.V. presented about scenarioplanning from the point of view of the custodian bank. A custodian bank holds the securities that are traded by the pension funds. It may report about the investment portfolio and measure performance.

The purpose of a pension fund is to provide a pension that is socially acceptable. Scenarioplannig as a tool to  be able to set a policy that brings about socially acceptable pensions.

Scenarios may be planned for policies about investments, premiums to be levied, and costs of managing a pension plan.

If pension fund participants start doubting the pension promise of a socially acceptable pension, what will that mean fort he pension system? In addition to plan scenarios covering financial risks, there are scenarios for non-finncial risk, such as politicl risk. Scenarios about political risks might include topics such as the breakup of the EURO, or the scenario of nationalising pension funds.

Kas Bank as a custodian bank can implement these scenarios in the investment portfolios and see what costs are involved if any scenario should become reality.