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Industry News
Risk Management - October 28, 2010

Invitation to participate in EDHEC Sponsor and Accounting Risk Management Survey 2010

As part of academic research by EDHEC-Risk Institute on the impact of accounting and prudential constraints on the asset-liability management of European pension funds, we are seeking feedback from industry professionals.

The short questionnaire will take less than 15 minutes to answer and is available through the following link:

http://vip.sphinxonline.net/edhecrisk/accounting_sponsor_risks/questionnaire.htm

Our questionnaire is designed for a study of accounting risks (in the balance sheet of the sponsor) and of sponsor risk (the risk of a weak sponsor's failing to make good on pension commitments) in pension plans. The survey is being conducted as part of the "Regulation and Institutional Investment" research chair at EDHEC-Risk Institute in partnership with AXA Investment Managers.

As the market downturn at the turn of the millennium devastated many pension plans, some companies have been left with pension deficits larger than their stock market capitalisation. In 2002, United Airlines filed for bankruptcy protection (Chapter 11), a controversial filing that allowed it to cancel its pension obligations and transfer these obligations to the Pension Benefit Guaranty Corporation (PBGC). As pension benefits are not fully insured by the PBGC, United employees lost $3.2 billion, a loss that meant anywhere from 20% to more than 50% of their pension rights. These losses underline the impact of bankruptcies of the sponsors of pension plans (or failure to make good on pension shortfalls) on pension participants. We call this risk sponsor risk.

The sponsors, for their part, must report the cost of providing pensions in their accounts. Accounting rules have undergone significant changes: marked-to-market accounting (in which pension liabilities are discounted at an AA corporate rate) was introduced in the late nineteen-nineties, and, since 2004, an amendment has allowed immediate recognition of gains and losses in the P&L of the sponsor; in the United Kingdom (FRS 17), this immediate recognition has been made mandatory. One of the trends observed in the UK market after the implementation of FRS 17 (a restrictive implementation of IAS 19) is the closing of defined-benefit (DB) plans and the opening of defined-contribution (DC) plans. However, this rather extreme solution involves possible dissatisfaction for employees, as they often make poor investment decisions and may also miss the benefits of pooling risk (protection from longevity and investment risks).

The losses and closures, apart from underlining sponsor and accounting risk, also underline the failure to manage these risks. To better understand the risk management practices related to these two important risks, EDHEC, as part of the “Regulation and Institutional Investment” research chair sponsored by AXA Investment Managers, is taking a survey of trustees/managers and sponsors of DB pension funds.

The first section will focus on practices. The aim is to understand current practices for the financial management of accounting risk (which arises in the accounts of the sponsor from their pension plans) and of the way sponsor risk is managed in pension plans. We will attempt to understand where the risk is managed (at the pension fund or at the sponsor), what risk is being managed, and the strategies and instruments used to manage it.

The second section will review the reasons for the lack of management of these two great risks. Are there obstacles to managing this risk, and, if so, what are they?

The third section is forward-looking. It will evaluate the consequences of the proposed changes in accounting standards.

For any questions on the survey, please contact Samuel Sender by phone at +33(0)493 187 833 or by e-mail to: samuel.sender"at"edhec-risk.com.