Risk management remains a top priority for pension plan sponsors in the post-crisis environment, but definitions of risk and volatility differ depending on which side of the Atlantic an organization is based, according to a recent survey.
The Pyramis Global Defined Benefit Survey of 466 corporate and public pension plans in the U.S., Canada and 11 European countries found that U.S., Canadian and European respondents said that the top three lessons they learned from the financial crisis were the need for more downside protection (62%), improved risk management (54%), a better match of assets and liabilities (49%) and a realization that they were less diversified than they thought (42%).
“Pension plan executives gained a new appreciation for risk management during the recent financial crisis,” says Young D. Chin, chief investment officer with Pyramis Global Advisors. “Based on this survey and our own conversations with clients, there is a great deal of concern in the market today about how best to assess risk and address it. As a result of the many lessons learned, plans are implementing new investment strategies and risk measures designed to meet their long-term goals.”
Among the chief concerns was current funded status (23%), followed by volatility (21%)—either volatility of a plan’s funded status or asset volatility—and a low-investment-return environment (19%). The top concern among U.S. corporate plans was the volatility of their funded status, while public plans were most concerned with the current level of their plans’ funded status. Solvency ratios were cited by 23% of Canadian plans, while in the U.K. and northern European countries, the top concern was a low-investment-return environment.
How do you spell volatility?
The definition of volatility—which influences a plan’s investment strategies and views on risk—differed across regions. For U.S. corporate and Canadian public pension plans, volatility is defined as funded status or solvency ratio volatility, respectively. Conversely, U.S. public and northern European pensions define volatility as asset volatility.
“The solutions that respondents identified are consistent with the lessons they have learned, their top concerns and their definitions of volatility and risk,” says Chin. “For example, many plans are managing investment risks to protect their funded status through liability driven investing (LDI), while others are broadening asset allocations or implementing multi-asset-class strategies with pre-approved risk and return goals for asset managers who invest tactically as markets change.”
Chin explains that each strategic response contains an important educational component.
“The committees responsible for pension plan investments need to understand how global diversification, for example, can introduce new portfolio risks or how broadening allocations can affect liquidity risk management,” he says. “Managers who can develop effective investment strategies and effectively partner with institutional investors in the educational effort are best positioned to help their clients find solutions for the new decade.”