Portfolio Restriction to Impose on Defined Benefit Pension Plans
36 Pages Posted: 19 Jan 2012 Last revised: 14 Apr 2012
Date Written: January 18, 2012
When a firm sponsoring a defined benefit pension plan approaches financial distress, the Pension Benefit Guaranty Corporation (PBGC) insurance effect materializes and the optimal pension portfolio policy becomes aggressive. In this configuration, a regulation restricting the pension investment strategy is needed. We suggest that the restriction imposed should follow asset-liability management principles. A low risk investment policy, as defined by the preference-independent liability hedge only, should be the regulator's benchmark. We recommend that the risky asset proportion maximum limit is fixed at 30%.
Keywords: defined benefit pension plan, distress, PBGC, regulation, portfolio restriction, liability hedge
JEL Classification: C61, G11, G22, G23, G28
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