Innovative ways of financing retirement

In this day and age where financial innovation is (wrongly!) blamed for the end of capitalism and the world as we know it lock, stock and barrel, the title of SwissRe's latest edition of Sigma is courageous. Nevertheless, it is a comprehensive assessment of the growing role that insurance will have to play in the provision of old age retirement funding, where insurance is to be understood in a functional rather than an institutional sense. 

An important section of the study is dedicated to managing retirement product risks. Longevity risk is identified as prominent among them, but its management is limited by the rather shallow depth and breadth of longevity risk markets. Notably absent from that section, however, are considerations on valuation techniques. If there is one thing that we can learn from the current crisis, then it is how crucially important it is to value & stress test innovative products properly over their entire life cycle.

XBRL for Investment Professionals

It's nearly a month that said conference took place in London, and I have yet to blog about it ... some of the reasons for that delay probably co?ncide with the reasons why a relatively small group of less than fifty professionals came together for an event that has been organised by CFA Institute, EFFAS and the IASCF, namely current market dislocations. In the face of that, an infrastructure undertaking such as XBRL takes second place with many.

Nevertheless, participants tended to be quite happy with the conference and commented favourably on the quality of the audience as well. The relatively small size of the audience made it possible for the audience to interact with each other and to participate actively in the Q&A session, which is very helpful when you're the moderator ...

Here are the presentation slides. It's a pity that David McGraw's slides are not available, because his and Homi Byramji's presentations struck a strong chord with me. In David's case it was the breadth of the potential applicability within a leading institutional investor's processes, and the challenges that XBRL has to respond to (data governance!), whereas Homi was demonstrating clearly that, other than Encyclopedia Britannica, Thomson Reuters is not going to be asleep on the wheel in the face of the challenge to the middle man posed by XBRL. Personally, I am fairly confident now that XBRL is a sustaining innovation for information intermediaries. 

Shortly before the conference, Finanz und Wirtschaft published an XBRL update that I wrote. And there is one more update: XBRL CH is now officially a provisional Jurisdiction!

Deconstructing financial mythology

In its aptly numbered working paper 666, the Minneapolis Fed deconstructs (for the USA) what it claims to be the following four credit crisis myths from publicly available data up to 8 October 2008:

1. Bank lending to non?nancial corporations and individuals has declined sharply.
   
2. Interbank lending is essentially nonexistent.
3. Commercial paper issuance by non-financial corporations has declined sharply and rates have risen to unprecedented levels.
   
4. Banks play a large role in channeling funds from savers to borrowers.
   

There is not much reading to do as the authors rely on graphical evidence. (via MR)

P.S. And here's follow-up ... I'm sure there's more to come.

Truth or dare?

EDHEC has made available an interesting survey of current European investment practices, comparing actual practice with recent state of the art in the investment literature. It's a feature of such a survey that practice cannot really look all that good since there will invariably be a time lag between conceptual groundworks and practical implementation. But it transpires from the results that practice does not seem to look to finance literature for competitive advantage by implementing the latest innovations, such as how to handle tail risk.

This conservative approach is probably due to a behavioural bias in the investment community to avoid the risk of being wrong and alone, and it is not likely to change anytime soon, what with the bad press that financial innovation has these days. But in true contrarian spirit, I'd like to point you to this insightful praise of financial innovation.

Consult the survey and compare it with your firm's practice for your own private game of truth or dare ...

Evaluating short extension funds (130/30)

The current issue of the FAJ has a great piece about How variation in signal quality affects performance. On the face of it, the article deals with the generic perception that any relaxation of investment restrictions (read: long only) will invariably result in better performance. This is the selling proposition of currently fashionable 130/30 funds. But it doesn't - or only in the special case of an information coefficient which is stable over time. Managers with unstable ICs will see their performance deteriorate with increasing short positions. 

This approach delineates a way to help evaluating 130/30 funds which do not have a long enough track record in the product (i.e. the majority of vendors), but a more significant one in long only mandates. If that track record were to exhibit an unstable IC in long only portfolios already, then there might be a problem in the short extension.

Prediction markets

Let me be explicit from the start: I have a problem with the judgmental connotations of the term speculation. In my view, there is no meaningful distinction between investing and speculating. Investing as well as speculating is about the assumption of risk in return for the uncertain possibility of reward. There is only inappropriate investment or speculation, but not bad speculation per se. 

The cause for these rather philosophical considerations is my interest for prediction markets such as intrade, where you can effectively trade in all sorts of event probabilities. Literature has it that predictions produced using a bid/ask mechanism with real money will be of significantly better quality than survey forecasts for instance. Naturally, they cannot tell the future, but they will be more efficient at processing all currently available information than any one expert. Therefore, these markets serve two important purposes: If reasonably liquid, they offer high quality, quantified predictions of event probabilities of presidential elections or hurricane landfall severities, and they offer a hedging possibility, although the liquidity is definitely a limiting factor there at this point.

It is very timely that the CFA Institute has just published the results of its last Monthly Question survey about prediction markets. 65% of respondents think that such markets offer valuable information, and a majority of 54% think that they are fit for investment purposes (mostly hedging).

Challenges in Quantitative Management

At last, I got round to finishing Challenges in Quantitative Equity Management, a freely available CFA Institute Research Foundation monograph by Fabozzi, Focardi and Jonas. The book is based on surveys and conversations with practitioners of quant management, capturing the collapse in industry outperformance following the summer of 2007. I was particularly interested to find out whether there would be any attention paid to XBRL, which I suspect should be quite relevant to quant management, but it wasn't even mentioned throughout the book. That's not to say it is considered to be irrelevant: Too many people using similar models and the same data was considered to be one of the major challenges to the quant approach going forward. 

Nevertheless, it is a worth while read for a number of thoughts and discussions, such as the distinction between quantitative and judgmental investment processes, the style correlation of quant management (which tend to be value-driven), the negative correlation between fund capacity and alpha-generation and, last but not least, the adaptive markets hypothesis as opposed to the efficient markets hypothesis. 

A Plunge Protection Team?

While certainly no friend of conspiracy theories, I feel distinctly uncomfortable reading this well documented piece by a reputable source about the US government's alleged involvement in undercover equity market manipulation, a.k.a market stabilisation, in the name of national security (via naked capitalism). 

CEIOPS State of Pensions Report

CEIOPS' Report on financial conditions and financial stability in the European Insurance and Occupational pension fund sectors has a good section (starting p. 22) about recent developments in the European pension funds market, giving insights into last year's changes in a number of countries and a statistical overview, based on Eurostat.

XBRL for Investment Professionals

The CFA Institute, EFFAS and the IASC Foundation are hosting the first XBRL conference for Investment Professionals in London on 26 September 2008. Thanks to the recent rule proposals of the US SEC applicable to corporate filers and mutual funds, there should be a lot of interest in that topic. Registration is now open!

nomos vs. thesis

High quality private banking investment commentators with an independent mind are few and far between. The most prominent instance in the Swiss market is Konrad Hummler, partner of Wegelin & Co. His monthly investment commentary is well considered, independent and often controversial - and available in English. The current May issue deals with the moral hazard of banking supervision in its current zero failure mode. Recommended reading.

Financial anti-matter

The recent paper "Is Managed Futures an Asset Class? The Search for the Beta of Commodity Futures" approaches this extraordinarily timely question from an unusual angle: practice. The fashionable economics ingredients promise to make it no less appealing: behavioural finance, disequilibrium and reflexivity theory. The authors question some of the most basic assumptions of the commodities futures markets and propose a hedging response model that distinguishes between four different market scenarios which may result in markedly different systematic roll returns. While the predictive value of this model is not immediately obvious, its ex post explanatory power is quite impressive. Most surprisingly, it is a good read, too. Here is their answer to the question: 

Answering our own question is managed futures is an asset class? It is anything, but ... If anything, it is the "anti-asset class". It is an observable materialization of behavioral finance, where risk, return, leverage and skill operate un-tethered from the anchor of an accurate representation of beta. In other words, it defies rational expectations equilibrium, the efficient market hypothesis and allied models?the CAPM, arbitrage pricing theory or otherwise?to single-handedly isolate a persistent source of return without that source eventually slipping away. (...) Unbeknownst to modern finance, the commodity futures markets may be the shoals against which rational expectations equilibrium, the "de facto ruling paradigm of financial economics," is eventually shipwrecked.

In view of this and particularly this, it may perhaps be time to indeed revisit one's CF long exposure, which has been entered into on the possibly naive assumption that the futures markets are tightly monitored net zero sum games that have no impact on the spot markets. 

Analysis of competing hypotheses

The US Central Intelligence Agency's reputation for analytical accuracy may have been tarnished lately, but nevertheless it can provide useful generic tools for analysis under uncertainty. The chapter on Analysis of Competing Hypotheses from the publication Psychology of Intelligence Analysis is such a case in point: it describes in some detail the procedure how to arrive at the most likely hypothesis by way of analysing competing hypothesis, knowing that - against intuition - the hypothesis with the least evidence against it is often the best guess. The rigour of this approach may be excruciating, but it is also the most promising in my view.

Counterparty risk in credit markets

As pension funds increasingly seek to efficiently manage their balance sheets, they invariably come to rely on OTC derivatives, by way of which they become exposed to counterparty risk. On 20 February, thus shortly before 16 March which saw the US Fed-assisted emergency neutralisation of Bear Stearns counterparty risk, Barclays Capital issued a research note that assessed the transmission vectors and systemic fallout of a major counterparty's default. The knock-on effects due to immediate re-pricing of credit risk would amount to an estimated USD 36 - 47 bio for an imputed outstanding notional of USD 2'000 bio. Bear Stearns' notional was well over six times that number.

The (Mis)Behaviour of Markets

Benoit Mandelbrot's The (Mis)behavior of Markets: A Fractal View of Risk, Ruin and Reward (2004) is quite an intriguing read during these days of murderous market volatility. The list of his Ten Heresies in Finance goes a long way in giving a hint of his thinking, which is centred around his claim that the use of normal distributions in financial market modelling is a capital mistake:

Markets are turbulent.

Markets are very, very risky - more risky than standard theories imagine.

Market timing matters greatly - big gains and losses concentrate into small packages of time.

Prices often leap, not glide. That adds to the risk.

In markets, time is flexible.

Markets in all places and ages work alike.

Markets are inherently uncertain, and bubbles are inevitable.

Markets are deceptive.

Forecasting prices may be perilous, but you can estimate the odds of future volatility.

In financial markets, the idea of Value has limited value.

Oil money

The McKinsey Quarterly has a great piece on The new role of oil wealth in the world economy. For me, this raises two broad issues. The first one is a continuation of the closing concern of the piece, namely the question whether higher oil prices can be good for the world economy. I think on a macro-level, this is possible. As long as the majority of the oil revenue is re-funnelled into the financial markets (i.e. is not being spent for consumption), it is tantamount to (forced) higher savings by net oil consumers with - admittedly - an ownership transfer of those savings to oil producers. So, oil producing countries build capital in lieu of the US citizen. 

Secondly, Sovereign Wealth Funds (SWF). These vehicles have captured a lot of attention lately. Unjustly so, in my view. The operational question is: What is the difference between SWF and regular institutional investors of the same size? Allegedly, the SWF is sovereign, i.e. it is controlled by (typically foreign) politicians who cannot be trusted to have commercial interests only. This argument is moot for two reasons: 1) regular institutional investors (especially, but not exclusively of foreign origin) may not only be motivated by strictly commercial reasons either, and - 2) if a controlling investor in a country's strategic asset abuses her property rights, the country of residence can, as a rule, limit that investor's property right, which is a function of the country's legal framework. Such ad hoc interventions are much preferable to introducing permanent limits on the free flow of capital, which invariably will create costly distortions.

The future of public pensions

Richard Ennis' article in the current issue of the Financial Analysts Journal may be aimed at the ailment of US public pensions,  but its tenets are equally applicable to European (including Swiss) public pension plans as well. A key issue is that of valuation, where current actuarial valuations are traditionally predominant under the pretext of perennial solvency of the state sponsor. Ennis convincingly demonstrates that the "issues are the value of the obligation, the cost to extinguish it, and on whom the burden of that cost falls. In a word, the concern is accountability." From a Public Choice perspective, his tenets are unlikely to be put into action just now, unfortunately. The increasing gulf between public and private pensions will have to get wider before this can be addressed fundamentally. 

EDHEC alternative investments days

Very commendably, EDHEC Risk has decided to make the full documentation of its recent Alternative Investment Days 2007 available to the general public. This includes the much discussed - and dearly sold - paper about passive hedge fund replication as well as a lot of other interesting stuff. 

CDI vs. LDI?

Wilshire has a fairly interesting white paper out with the title Commitment-Driven Investing (CDI): LDI as We 'C' It. The paper's rather semantic focus on commitment rather than liability is probably a consequence of its US accounting context, so we are not going to hold that against it. The thrust is certainly correct, namely that CDI, i.e. the Wilshire variety of LDI is aimed at managing the true economic funding ratio of pension plans and is therefore inherently a risk management technique. 

Confusing at best however is the frequent reference to two equally important (but partially conflicting) goals of CDI, whereas the only correct objective (from the sponsor's perspective) must be to minimise the cost of running the plan at a given level of benefit security. Also, the authors seem to be struggling - quite fashionably, one might add - with the rationale behind marking-to-market of pension liabilities. The impending revision of IAS 19 will deal with that issue.

Their conceptual conclusion, nevertheless, is an intriguing one: The commitment discount rate is set to be a random variable described by the expected inflation characteristics of the individual plan's benefit stream. This is where the authors can start their optimisation engines, hopefully without being blinded by the light of past correlation stability. 

While we feel more comfortable with the more comprehensive approach recently proposed by Waring & Siegel, the authors deserve a prize for originality as this paper is the first that I know of to include the complete lyrics of a Springsteen song.

Impact of funding risk

Interesting material our way comes! Watson Wyatt has had a close look at the funding status of Fortune 1000 companies 2004 - 06 with effective numbers becoming available for 2006 thanks to FAS 158. WW has developed a Pension Risk Index, which estimates the loss of the pension plan in percent of the corporate's market cap at a 5% probability of unfavourable market conditions, given the plan?s asset allocation, liability structure and sensitivity to interest rates.

An excellent article in the current issue of the Financial Analysts Journal goes an important step further: The author estimates the correlation between pension fund deficits and associated credit spreads. The results are statistically significant and show interesting characteristics: The sensitivity of spreads to unfunded pension liabilities is about five times larger for junk bonds than for investment grade bonds. Also, the sensitivity to pension liabilities is much larger than to ordinary long term debt - double for investment grade, triple for junk. The model was also run for samples from the UK and Japan, but those results only confirmed a generic sensitivity.

This is where the relevance of pensions for corporate finance becomes evident. We expect that the relevance will increase thanks to better, more relevant accounting information and increasing market attention.

Sustainability investing

In its 2007 Business in Society Anthology, The McKinsey Quarterly has - among numerous other interesting articles - an interview about Socially Responsible Investing with upcoming Nobel laureate Al Gore and David Blood, partners in Generation Investment Management.

In related news, the World Bank has identified impact and source vulnerabilities of the world's countries in order to delineate country stakes in upcoming climate negotiations. Countries with high source vulnerability face above average negative consequences of climate change measures, while countries with high impact vulnerability are expected to suffer most from the consequences of climate change. As shown on the map, the two types of vulnerabilities are far from congruent, which means that negotiations will be very difficult.

CFA Institute podcasts

The CFA Institute is revving up its web based offering with interesting educational audio content that you can subscribe to, a.k.a. podcasts. Right now, it's only the audio stream of presentations and articles, but I hope that the presentations will soon be complemented by the slides that the speakers talk about. Here are the links to the RSS feeds in iTunes: Conferences and Events, CFA Institute generated items, CFA Institute Pubs.

Global Graying Report

Standard & Poor's has an interesting update of its Global Graying Report, which projects the current fiscal policy stance in conjunction with forecast demographic expenditures to arrive at hypothetical future ratings. It is a pity that Switzerland is missing from the simulations - France for instance goes from AAA today to Speculative in 2040.

Valuation of Swiss IORPs

Well known Swiss accounting and pensions expert Carl Helbling has a highly relevant piece on the valuation of Swiss pension schemes. In it, he comes to a rather disturbing conclusion: "Accounting standards IFRS and Swiss GAAP FER are too undifferentiated and can only be a limited basis for valuation [of pensions]." He lists a substantive number of instances, where, for legal reasons, apparent over- or underfundings of Swiss plans cannot be utilised as expected economically. Thus, accounting numbers may be substantially different from effective values.

Now, this is not exactly news as IAS 19 is hardly known to reflect economic reality thanks to its built-in shortcomings. But the instances listed do not even appear to be related to IAS 19 features to start with, but rather to what needs to be considered as accounting artefacts in the light of (legal) reality. One wonders how such numbers can be presented as true and fair?

Sovereign wealth funds

Deutsche Bank Research has a comprehensive piece about sovereign wealth funds, including an overview of the most important funds, their systemic risk factors and of control mechanisms for foreign direct investments. Deutsche asks for increased transparency and a global code of conduct for such vehicles - both highly sensible petitions.

Global upward trend in profit share

The BIS has an interesting working paper #231 on The global upward trend in the profit share. The paper addresses the rising share of value added going to capital rather than labour, a trend which is in evidence since the mid-1980s. The authors claim that this is not a cyclical development (unless you take Kondratiev-cycles into consideration, which they do not), but a fundamental shift explained by faster technological obsolesence of capital goods. The implications of this assessment are far reaching, not least with regards to the sustainability of equity valuations.

Lifetime financial advice

The Research Foundation of the CFA Institute has issued a new monograph on Lifetime Financial Advice - Human Capital, Asset Allocation and Insurance by four distinguished authors: Roger G. Ibbotson, Moshe A. Milevsky, Peng Chen CFA and Kevin X. Zhu. For a summary, let me quote from the foreword:

The largest asset that most human beings have, at least when they are young, is their human capital? that is, the present value of their expected future labor income. Human capital interacts with traditional investments, such as stocks, bonds, and real estate, through the correlation structure. But human capital interacts in even more interesting and profitable ways with life insurance and annuities because these assets have payoffs linked to the holder?s longevity. The authors of Lifetime Financial Advice present a framework for understanding and managing all of these assets holistically.

This complex issue is approached in a systematic, model based fashion from the perspective of the individual investor. It may not, therefore, hold as much interest to the traditional institutional investor managing retirement monies collectively. Private wealth & insurance product managers should be able to find plenty of food for thought, though. But not only them: this short monograph should be essential reading for everyone who needs to be financially literate.

Pensions directive to be revised 2008

In its annual report, CEIOPS gives an overview (p. 47f) of its past & current activities. Its Occupational Pensions Committee (OPC) is working on putting together materials for the revision of the Pensions Directive that is scheduled by the Commission for next year. Areas of material legal uncertainty to be clarified are concepts such as fully funded, ring-fencing or the calculation of technical provisions.

Incentives for DB plans

The Governor of the Bank of Canada, Mr David Dodge, has been singing defined benefit pension plans' praises in a recent speech. He recognised that "an effective defined-benefit pension system is a tremendous asset for individuals, for employers, and for our society as a whole", but is currently hampered by a number of disincentives, which favour DC over DB for sponsors. Specifically, he lists

uncertainties over the legal status of actuarial surplus

overly restrictive solvency requirements,

transition from smoothed accounting numbers to fair value accounting

group longevity risk

insufficient transparency about cost / financing of newly introduced benefits

lack of large multi-employer DB plans.

We agree with both parts of the analysis, namely that DB plans are preferable to DC, and that there is currently a lack of incentives for DB plans. We strongly disagree however with Mr Dodge's opposition to fair value accounting. He claims, essentially, that we are not interested in today's values, but in expected values far into the future. We think that analysts of pensions are very much interested in today's values. For one, every expected future value can be discounted to a current present value (assuming that the term structure holds). Thus, Mr Dodge's distinction would essentially become moot.

More importantly however, it is not at all clear at which specific point "far into the future" the expected value would need to be formed - surely that cannot be discretionary? How about changes to those expected future values, based on variations of underlying assumptions? Finally, the volatility introduced to sponsors' balance sheets is not artificial, it's an economic fact. Cognition of that fact is a prerequisite of sponsors' ability to manage the inherent economic risk of their DB plans and, therefore, an enabler of an effective defined-benefit pension system.

Corporate Finance meets pension management

"Pensions are being transformed from off-balance sheet operations with results smoothed over many years, to large consolidated business units with high potential short-term volatility, bringing them to center-stage for executive managers."

Earlier in the year, JP Morgan has come up with a white paper that is very much in line with our thinking: Corporate Finance meets Pension Management: A new era for pension leaders. The paper is obviously targeted to the US market struggling with implementing the Pension Protection Act of 2006 and US GAAP SFAS 158, but as accounting (and regulation) follows economics in Europe, too, Europeans are well advised to consider this a sneak peek preview of their own not too distant future.

JP Morgan established a set of three strategic pension metrics, namely shareholder equity at risk, corporate cash flow at risk and earnings at risk. These metrics measure the impact of pensions on the respective variable of the sponsoring corporation. Putting the metrics into action will lead to important changes in the pension plans' risk exposure: JPM expects a shift from the currently too high equity exposure into an allocation of 25%-35% in non-traditional assets. As the paper originates from JPM's asset management arm, I have a feeling that the wish may have been father to the thought ...

"Prudent investor" for Switzerland?

NZZ reports the results of a survey among 172 Swiss institutional investors with CHF 211.7 Bio (EUR 128.3 Bio) assets under management. They have been asked to give their opinion on the rather restrictive set of detailed investment rules applicable to Swiss occupational pension funds. A majority of funds voiced their preference for the prudent investor rule to replace the incumbent detailed set of rules. The available exemption from detailed rules of Art. 59 BVV2 is reported to be used by 80% of funds and thus has become the rule.

Unfortunately, detailed results of the survey appear not to be available online.

Regulatory distortion

IPE refers us to an interesting OECD study modelling the optimal asset allocation for an identical pension fund, over a 30-year period, according to the regulations of five OECD pension jurisdictions. It found an identical pension fund which was fully funded according to UK standards would appear 87% funded in the Netherlands and 69% funded under German rules. Optimal asset allocation strategies also differ between the jurisdictions. Since good regulation should at least attempt to not distort economic reality, this certainly looks like an interesting paper.

Institutional hedge funds?

Some will find this excessively dogmatic, but I still subscribe to the view that there is no conclusive evidence yet of the need for hedge funds (meaning active absolute return strategies) in the institutional asset management business. To provide such evidence, it would be necessary to demonstrate that hedge funds' risk-adjusted performance after fees is located on the efficient frontier over an entire market cycle, and that would have to hold in the present constellation with relatively huge allocations to the segment.

In my view, hedge funds are perfectly appropriate for private wealth because of individual investors' known disproportionate avoidance of loss. In the case of institutional investors whose equity is subject to volatility of assets and liabilities, absolute return strategies may be net inefficient at best, or they may even create additional asset/liability mismatch and thus be entirely counter-productive if considered from a comprehensive balance sheet risk management perspective.

That being said, the traditional distinction between hedge funds as providers of absolute return strategies on the one hand or alpha engines on the other becomes increasingly blurred. It is therefore advisable to keep a close watch on the industry, especially given the recent competitive pressure on excessive and asymmetrical fees exerted by institutional investors (epn story).

Commission addresses differential taxation of investment income

Following complaints by the EFRP, the Commission has initiated Treaty infringement proceedings against a number of member states which do not grant the same preferential tax treatment of investment income (interest, dividends) to pension funds resident abroad as domestic funds receive. Even though there is no direct reference to the Pensions Directive in the text, the relevance of this step to an efficient investment regime of cross-border pension funds is obvious. (FT)

Mitigating cost of ageing

McKinsey has an interesting Chart Focus displaying the mitigating effect of direct & indirect policy measures on the opportunity cost to growth of ageing societies. By far the largest effect could be had in Germany by raising the average rates of return on savings, which would not appear to be outlandish, given the notoriously conservative nature in which German savings tend to be invested. Immigration and higher fertility pale in comparison.

Institutional Life Markets Association

IPE has an interesting story about the recent foundation of Institutional Life Markets Association (ILMA), a non-profit trade association to ?encourage best practices and growth of the mortality and longevity related marketplace?. Founding members of this potentially highly relevant association are Bear Stearns, Credit Suisse, Goldman Sachs, Mizuho International, UBS and West LB AG. The association does not appear to have a website, yet.

CFA Magazine finds

The CFA Magazine often is a good source of interesting material, written in a competent, yet conversational style. Cases in point are Stephen Brown's article about RIXML, an electronic data format similar to XBRL, but specialising on research information and therefore not quite as pervasive as XBRL, and John Rubino's excellent piece about global liquidity, providing insights into the global yield curve and failing monetary policy in the presence of free flows of capital and the carry trade.

Draft Swiss pension law

Swiss pensions association ASIP has published a concise draft of a revised occupational pensions law to assist the ongoing debate about simplifying the overly complex current law. Surprisingly, this draft still does not refer to the prudent person rule in its asset management section. Encouragingly, the draft does away with politically set rates such as the conversion rate or the guaranteed minimum return.

At the same time, ASIP has published the executive summary of a research paper examining the alleged over-capitalisation of the Swiss second pillar with a view to reducing the full coverage requirement. Some of the arguments proffered are truly surprising: foreign investments are used as evidence of an over-abundance of capital. Unsurprisingly, the authors conclude that there is no indication for too much saving and that it is reasonable to maintain the full coverage requirement.

2007 asset allocation survey

Mercer IC published its periodic asset allocation survey of European pension funds. Of the 651 funds surveyed, 75% still reside in the UK, thus the survey's cross country comparison may not be entirely reliable (via VF).

Financial investments in commodities

Commodities investments have caught the supervisory eye, it seems. In its latest Quarterly, the BIS published interesting research about Financial investors and commodity markets. Specifically, it addresses the questions whether the exploitation of perceived profit opportunities by financial investors has fundamentally changed the relationship between prices and the physical characteristics of commodity markets and whether the broadening of the investor base has led to significant market deepening and hence affected features such as short-term price fluctuations.

The latter question is answered quite in the affirmative, while the former is more difficult to address. The BIS notes a significant divergence of long-dated futures prices (in crude oil and copper) from estimates of current marginal production costs since 2003. In efficient markets, expected marginal costs should act as anch