According to the latest “60 Second Survey” by Morneau Sobeco, 20% of pension funds in Canada don’t know whether their assets are exposed to Asset-Backed Commercial Paper(ABCP)or high-risk Canadian sub-prime mortgages, which brought about a liquidity crunch on the non-bank ABCP market. Almost as many pension funds believe that they are exposed to at least one of these assets.
The ABCP market represents more than 100 billion dollars in Canada—a third of which is managed by the five non-bank institutions hardest hit by the crisis. Their commercial papers can be found in the portfolios of pension funds and other group savings plans.
The survey, carried out last week, reveals that barely 4% of the 80 pension funds surveyed across Canada directly hold ABCP, while 15% are exposed to them through mutual funds.
According to Jean Bergeron, a principal in the Asset Management Consulting Practice of Morneau Sobeco’s Montreal office, “the survey results confirmed that the liquidity crunch affects a minority of pension funds with only a fraction of the assets being invested in these instruments. At the same time, it could be a major problem for those which need liquidity to buy pension benefits.”
On June 30, 2007, the portion of pension fund assets invested in the money market was on average just over 4.2% of the $40 billion in assets managed by 43 Canadian managers evaluated quarterly by Morneau Sobeco.
“It is not possible at this time to measure precisely the value of the money market mutual funds that hold ABCP,” adds Mr. Bergeron. “This is the contamination effect.”
The issue here is who manages the liquid portion of a pension fund’s assets. According to the survey results, a third of managers are chosen by pension funds primarily for their money market expertise, 28% for the quality of their fiduciary practices in risk management, and 10% for the quality of their research processes.
The survey also reveals that 20% of managers are chosen because they already manage the pension fund’s bond portfolio, and there are economies of scale to be realized in adding the money market portion. Finally, 10% of pension funds count on the institutional backing of managers if potential recourses turn out to be necessary. Following the liquidity crisis, about 20% of the pension funds surveyed stated that they would review their managers’ fiduciary practices.
On the other hand, the survey finds that 46% of the pension funds are optimistic and believe that a solution will be found allowing them to recover or prevent losses. Surprisingly, plans that are direct holders of contaminated instruments, or that are unaware of whether or not they hold these instruments, are the most optimistic.
At the other extreme, pension funds that do not hold any of these instruments, or are not aware if they do, make up the largest portion of those that are pessimistic. But none of the plans holding contaminated instruments seem ready at this time to institute legal actions against their managers.
Whatever the outcome of this crisis, 26% of the pension funds surveyed state that they are currently reviewing their asset managers’ practices concerning money market risk monitoring, or are considering the possibility of implementing a policy that would enable a fund manager to quickly segregate pure high grade instruments from synthetic instruments in order to mitigate future risk of contamination from illiquidity.
“Many managers have already begun an auto-evaluation of their practices to make sure they won’t get caught another time in this kind of situation,” says Mr. Bergeron.
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