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1 Online Magazine the voice of Irish pensions Autumn 2013 The IAPF Magazine provided free of charge to all IAPF Members irishpensions magazine FEATURED ARTICLES Implications of the increase in State pension age Sustainable alpha: construct your portfolio towards repeating your successes Massive Growth In Bulk Annuity Buy-Outs pg 06 pg 18 pg 11 What s Inside? Latest News Features Expert Opinions Analysis Review Chairperson s Message pg. 04 New Retirement Planning Adviser (RPA) Course from LIA Pension Fund Investment Governance - Real Choices for Trustees pg. 09 pg. 14 Benefits Conference Photos pg. 20

2 Experience counts. For over 80 years, Pioneer Investments has been providing our clients with best in class, active investment solutions. During this time, we have faced many challenges and have leaned on our global experience to successfully navigate volatile and unchartered waters. As a recognised leader in active fi xed income management, we are proud to now offer our range of industry-leading solutions here in Ireland. For more information on our services please contact us at or visit our website at: Especially in difficult times. Dave Santry Head of Irish Institutional Business Alan O Dowd Client Executive, Irish Institutional Business

3 Table of Contents Table of Contents Chairperson s Message 4 Implications of the increase in State pension age 6 New Retirement Planning Adviser (RPA) Course from LIA 9 Massive Growth In Bulk Annuity Buy-Outs 11 Pension Fund Investment Governance - Real Choices for Trustees 14 Sustainable alpha: construct your portfolio towards repeating your successes 18 Benefits Conference Photos 20 _ Contact the voice of Irish pensions Suite 2, Slane House, 25 Lower Mount Street Dublin 2 Web: Tel: The IAPF does not make any representations or warranties, expressed or implied, in relation to the accuracy or completeness of information set out in this publication (including articles published by contributors). Professional advice should always be taken before acting on any of the matters discussed in this publication. Any views or opinions expressed in articles published in this magazine are not necessarily those of IAPF. Irish Pensions Magazine Autumn

4 Review Chairperson s Message Welcome to the Autumn Edition of IAPF online magazine. The last number of weeks has continued the trend of being particularly busy for the Association with the changes announced for the Standard Fund Threshold (SFT) and the Pensions Levy. It appears that the challenges facing pension provision and the difficulties facing our members grow by the year. It is extremely regretful that the Minister of Finance has reneged not only on his commitment to terminate the Pensions levy at the end of 2014, announced an increase in the levy for 2014, but has announced and a continuation of it into It now appears as if the levy is becoming a more permanent feature of State funding. This is effectively a raid on people s retirement savings. The reasoning for the continuation for the levy is also questionable and the Department of Finance appears to be issuing mixed messages. Is it to fund the lower than expected tax take from their revised method of calculating the SFT? Or is it to fund for possible Defined Benefit liabilities arising from the Hogan case? If it is the latter there is no reasonable justification for imposing this levy on DC members and no reason why the funds cannot be ring fenced for such liabilities. It is also extremely disappointing that Minister Joan Burton has failed to follow through on her promise to revise the Priority Order. The number of DB schemes winding up continues to accelerate as was evident in recent figures from the Pensions Board. The IAPF will shortly publish statistics on the level of coverage for active and deferred members in these schemes. This will reinforce the need to have a fairer distribution of assets amongst pension scheme members. Over the autumn period, the Association has also been focusing on how we can best serve you. We have being reviewing our raison d etre so we are clear as to our vision of the future pensions landscape in Ireland, the needs of our members and measuring how successful we are in delivering to your needs. It is essential that we continue to be relevant and heard on your behalf. As a result of our work, we have agreed that the mandate as an Association is clear. We must ensure that we influence the development of Secure, Fair and Simple pension provision in Ireland. Both the levy and the lack of action on the priority order will certainly challenge two of our three core principles Security and Fairness. Schemes will no longer be in a position to absorb the levy and Security of Benefits will be jeopardised and pensioner benefits will be cut. The continual raid on people s savings will challenge pension adequacy. Then there is the question of Fairness. Is it Fair that Defined Contribution members will have to fund potential Defined Benefit risks? Is it fair that some people will be able to accrue pension incomes in excess of 60,000 per annum? There certainly is nothing Simple about these developments and we will strive to continue to represent your views during these challenging times. Rachael Ingle Chairperson 4 Irish Pensions Magazine Autumn 2013

5 We cut through the red tape At William Fry we work hard to deliver clear and practical legal advice on pensions. We focus on the detail and work through it, so that you can stay focussed on your goals. For further information please contact: Michael Wolfe on or Liam Connellan on or williamfry.ie Dublin London New York Silicon Valley

6 Analysis Implications of the increase in State pension age by Deirdre Cummins Benefit design and the change in the State pension age In order to help address the increasing life expectancy of the Irish population and to reduce pressure on the public finances, the Social Welfare and Pensions Act 2011 provided for increases to the age at which the Old Age (Contributory) Pension (the State Pension ) is payable. The State Pension age (currently 65) is to increase to 66 years from 1 January 2014, to 67 years from 2021 and from 67 to 68 years from This change may have significant implications for private defined benefit occupational pension schemes, especially schemes with an integrated benefit design and schemes that provide bridging pensions. Integrated and bridging pensions A common benefit design employed in Ireland is the integration of scheme benefits payable on retirement with the State Pension (ie, the total pension package promised to members at retirement is calculated taking into account the State Pension which will also be received). Schemes with such a benefit design require particular consideration in the context of the increase in the State Pension age. Where a scheme has a normal retirement age of 65, an increase in the State Pension age will result in a gap arising between the age at which pensions are payable from the scheme and the age at which the State Pension becomes payable. Depending on the provisions of the trust documentation, it is possible that such a scheme could be deemed liable to pay the amount that would otherwise have been payable by the State. This could potentially create serious funding difficulties for a scheme. A similar issue arises in the context of bridging pensions where, on early retirement, an integrated scheme pays a higher pension to members until they reach State Pension age, at which time the temporary bridging pension ceases and is replaced by the State Pension. Increases to the age at which the State Pension is paid may result in such schemes having to pay the bridging amount for longer than anticipated (or funded for). Amendments Given the funding difficulties in many defined benefit schemes, it is unlikely that employers will be willing or able to bridge any funding gap that arises due to the changes in the State Pension age. The question that then arises for trustees and employers is whether their scheme documentation requires amendment to address these potential problems. Often a relatively straightforward way of dealing with the issue is to amend the scheme to allow integration with the State Pension without specifying the date at which the State Pension becomes payable. It is relatively common for a scheme amendment power to contain a restriction that prevents amendments that would have the effect of reducing or negatively impacting benefits accrued to the date of the amendment. Trustees must also keep in mind their fiduciary duties to scheme members. Employers and, in particular, trustees must therefore consider (and take advice where required) whether they are permitted to make an amendment of the type outlined above. It is arguable that trustees of an integrated scheme, in making such amendments, are complying with their fiduciary duties by securing both the benefit design and the funding model of the scheme. A scheme whose benefit design is premised on the State Pension being offset against the members salaries on retirement would not have been funded on the basis that the scheme would be liable to pay pensions on an unintegrated basis. In agreeing to the amendment, trustees may be able to demonstrate that they are simply reflecting the original intentions of the parties and pre-empting possible future funding difficulties. In considering whether to amend a scheme, it may also be reasonable to assume that it was not the Government s intention to undermine the benefit design of private integrated schemes by altering the State Pension age. The explanatory memorandum for the Social Welfare and Pensions Act 2011 states 6 Irish Pensions Magazine Autumn 2013

7 Expert Opinion Strength and experience. Managing investments in any climate. Achieving investment success is about more than maximising returns in the good times. At State Street Global Advisors (SSgA), we believe that long-term growth prospects are enhanced by how prepared you are for a variety of market conditions. As one of the world s leading investment managers, 1 our extensive experience enables us to expertly manage your investments. Whatever the weather, our absolute return solutions aim to deliver performance, downside protection and diversification. For more information about SSgA, visit us online at or contact your local representative. 1 Pensions & Investments, December State Street Global Advisors Ireland Limited is regulated by the Central Bank of Ireland. Incorporated and registered in Ireland at Two Park Place, Upper Hatch Street, Dublin 2. Registered number Member of the Irish Association of Investment Managers. Investing involves risk including the risk of loss of principal. State Street Global Advisors is the investment management business of State Street Corporation (NYSE: STT), one of the world s leading providers of financial services to institutional investors. IREMKT State Street Corporation All rights reserved. Irish Pensions Magazine Autumn

8 Analysis that these changes are needed to reduce the financial burden on the State by taking into account funding challenges associated with longer life expectancy in line with the Government s National Pensions Framework as set out in the EU/IMF Programme of Financial Support for Ireland. That programme makes it clear that the change is designed to reduce the financial burden on the State, not to confer a windfall benefit on retiring members of pension schemes by changing integrated benefit designs. Employment law considerations There is no statutory retirement age in Ireland. However many contracts of employment specify a retirement age. The age of 65 is frequently chosen to coincide with the date at which employees become entitled to the State Pension. It is anticipated that many more employees will now seek to work past the age of 65 as they may not be in a position to retire at that age without the State Pension. Despite a clear provision in the Employment Equality Acts to the effect that setting a compulsory retirement age is not age discrimination, a number of cases decided by the Court of Justice of the European Union have required employers to objectively justify their compulsory retirement age. Such cases have been followed by the Irish Equality Tribunal. Because of this employers may be required to objectively justify their compulsory retirement age and show it had legitimate aims connected with the nature of the job and was an appropriate and necessary means to achieve those aims. In view of the potential risks of a claim of age discrimination or unfair discrimination arising where an employer seeks to enforce its retirement age, it would be prudent for legal advice to be sought to assess the level of risks involved. Article Author Deirdre Cummins Senior Associate Employment Pensions and Benefits Group Matheson Are you delegating all authority to one investment provider? Talk to us at Independent Oversight of... Outsourced Investing Implemented Consulting Fiduciary Management Delegated Consulting Delegated CIO Ronnie Culliton: / Irish Pensions Magazine Autumn 2013

9 News New Retirement Planning Adviser (RPA) Course from LIA by Willie Holmes There is no denying that our population is aging. With the CSO predicting that the number of people over the age of 60 will grow from 750,000 in 2011 to reach 1 million in less than ten years, provisions must be put in place. In an effort to allow financial advisers to be in a position to provide for this growing market, LIA has launched its new Retirement Planning Adviser course and RPA designation. The Professional Diploma in Retirement Planning Advice is a brand new five-module course which focuses on the knowledge and competencies required to provide expert financial advice to consumers on their retirement planning needs, taking retirement benefits in an optimal manner, and investing post retirement, e.g. in ARFs. This new course and qualification (awarded by UCD and at Level 7 on the National Framework of Qualifications), is designed to equip financial advisers to service the growing grey market, seen as the next big opportunity for advisers in Financial Services. With tax relief now more limited, it is expected that retirement planning will move away from its current narrow focus on wealth accumulation and management, and turn back to the basics of helping individuals to have a decent standard of living in retirement. Since the initial launch of the Professional Diploma in Retirement Planning Advice, a number of pensions intermediaries have embraced the RPA designation and have made a move to make the course mandatory for their retirement planning advisors and support staff. In addition to the CSO s predictions for a sharp increase in the number of individuals approaching retirement in the coming decade, there are a number of other factors which will contribute to the growth of the Retirement Planning market: The Demise of Defined Benefit (DB) Schemes As most DB schemes will not deliver the benefits expected real advice is urgently needed. The numbers of active members of funded DB pensions schemes, excluding the non-funded public sector, is down 20,000 in the last two years to 200,000 (Source: Pensions Board, April 2012). Pension Fund Limits The introduction of pension fund limits over the last few years has had the downside of limiting the opportunity for retirement funding. It has increased the confusion for individuals at or close to the limits. At what stage do I cease funding? ARF v Annuity It is all too easy to go for the ARF route, as individuals like to see the large fund in their hands. However, have we adequately explained to individuals the bombout risk that they are taking on as life expectancy continues to increase, and investment returns may be lower than before? Phased Retirement As we live longer the cost of retirement is sky rocketing. Individuals will cope with this in a number of ways including phased retirement and later retirement. The traditional way of picking a retirement date and projecting the fund requirement to that date may no longer be sufficient. Limited Alternatives Investment opportunities have now become more limited. Diversification is the key, and with continued tax efficiency available for pensions for the average investor, pension vehicles can provide the best access to that diversification. RPA Course Information The Retirement Planning Adviser course is comprised of five modules, namely QFA Pensions, QFA Investment, QFA Regulation, Retirement Planning Advice I, and Retirement Planning Advice II. The course material has a strong practical case-study approach, focused on the retirement planning advice process in real life situations, from fact-finding, to analysis of needs, to provision of personal recommendations. Successful candidates will receive the Professional Diploma in Retirement Planning Advice from UCD (Level 7 on the NFQ). While those who hold the QFA, certain APA Irish Pensions Magazine Autumn

10 News designations or the Professional Diploma in Pensions will have covered one or more of the QFA modules listed above and will therefore be entitled to exemption(s), Retirement Planning Advice I and Retirement Planning Advice II are both brand new modules designed specifically for those working in this market. Examples of some of the topics covered include: quantifying the retirement income need, using spreadsheet projections charges and the calculation of reduction in yield (RIY) investment risk simulations, including calculation of value at risk pension adjustment orders pros and cons of taking a transfer value instead of relying on a DB preserved pension transfers pension limits, including the taxation of benefits taken in excess of relevant limits succession and estate planning simulating ARF and vested PRSA bomb-out risk course offering. It is the ideal next step for QFAs, APAs, and holders of the Professional Diploma in Pensions who wish to remain ahead of the curve indeed it is set to become a must have for those advising on pensions in the future. To find out more about LIA s new Professional Diploma in Retirement Planning Advice visit or call LIA on Registration is now open for the first RPA exams, taking place in January 2014 (closing date Friday, 8th November 2013). Article Author Willie Holmes Director LIA The new Retirement Planning Advisor course and RPA designation are an exciting new addition to LIA s The Doyle Collection Proudly supporting the IAPF as the voice of Irish pensions Enjoy preferential IAPF rates at any of The Doyle Collection Hotels. Visit doylecollection.com; enter promo code IAPF. BRISTOL CORK DUBLIN LONDON WASHINGTON DC Rates are subject to availability 10 Irish Pensions Magazine Autumn 2013

11 News Massive Growth In Bulk Annuity Buy-Outs by Shane O Farrell With the world of defined benefit pension schemes changing at pace, 2013 has seen a significant increase in the bulk annuity buy-out activity. Irish Life s market data reveals there has been over 540M of bulk annuity business transacted in the Irish market to end of Quarter 3. This is a three-fold increase in activity compared to the 2012 total. What might surprise some not close to the market is that approximately 75% of the bulk annuity business transacted so far this year has been on a sovereign annuity basis. For those not familiar with the product, a Sovereign Annuity (SA) is a special type of annuity whereby the payments are linked to the performance of specified government bonds. All the Sovereign Annuities in the market currently link to Irish Amortising bonds (IABs), special longer duration bonds brought out by the NTMA specifically for this purpose. As these bonds are only issued in large scales on demand by the NTMA, SAs are only currently available for bulk scheme wind-ups and not to individual customers, although the legislation permits them in principle in respect of any Occupational Pension Scheme, Defined Benefit (DB) or Defined Contribution (DC). Boom in activity in 2013 The 2013 activity (to end Sept) has been spread over 30 different defined benefit schemes, with some large schemes ( 100m+) making up the overall numbers. The restructuring and de-risking of defined benefit obligations is a current hot topic for all companies throughout Ireland and insurance solutions are a key part of this risk management process. The chart below tracks total market sales for 2012 and 2013 year to date (based on Irish Life s information of all market tenders closing in the time period) Drivers of Increased Activity Reintroduction of the Funding Standard Availability of Sovereign Annuities Attractive Pricing versus Accounting Liabilities Pensions Levy The key drivers of this activity are the reintroduction of The Funding Standard and the availability of Sovereign Annuities. The 30th June 2013 Pension Board deadline for the submission of funding plans has resulted in a lot of employers taking corrective action in relation to their pension scheme deficit. Many underfunded plans have wound-up over the past few months when faced with the reality of the future funding requirements. However the activity is not limited to schemes going through a wind-up exercise. Several sets of trustees have used an annuity buyin / buy-out as a first step in de-risking their defined benefit obligations. The restructuring of defined benefit schemes is a key consideration for all companies throughout Ireland (where they are present). These schemes are a real influence on P+L and controlling and understanding their impact on financial accounts is a key challenge for finance directors. The recent fall in corporate bond levels and resulting rise in accounting liabilities means that transaction pricing is now very attractive from a corporate accounting perspective. This is particularly the case for a full sovereign annuity transaction. Google Mercer Pension Buyout Index for further details. The pensions levy, while not an over-riding consideration, has a very real impact on the asset position within already underfunded defined benefit schemes. We have seen a spike in activity each year just prior to the levy deduction date. The European Court ruling relating former Waterford Crystal scheme Irish Pensions Magazine Autumn

12 News members also introduces further uncertainty about future government policy. The recent announcement of a continued pension levy (and a double levy in 2014) is likely to further this impact. Sovereign Annuities Sovereign annuities have been available in the marketplace since the start of Irish Life have led the way in bringing this new product to the market. Indeed Irish Life closed the first sovereign annuity deal which concluded earlier this year. The transaction process is now fully bedded in and there is a seamless process in place to move through to deal execution. There are three active providers offering sovereign annuities in the marketplace. All providers link their sovereign annuity product to Irish Sovereign debt by using special bonds called Irish Amortising Bonds issued by the NTMA. These bonds trade at a spread to AAA bonds and as a result sovereign annuities are available at a discount to conventional annuities. The current discount range is 10% - 12% (the discount varies from scheme to scheme). The chart below details the movement in the average sovereign annuity discount (where the discount is to conventional annuity terms) and the yield on Irish Amortising Bonds (IABs) over The initial sovereign annuity transactions included some level of a conventional annuity under-pin (referred to here as a mixed product). For example, where the first 5,000 of annual pension is secured by means of a conventional annuity with the balance above this being secured by means of a sovereign annuity. However most of the latest transactions completed in the marketplace have been a full sovereign annuity basis. This progression over the year is illustrated in the table below (all figures in M s): Product Type Q Based on Irish Life data for bulk transactions only Pensioner reaction to date has been very calm. Once pensioners see that there pension is continuing as before, they are generally relived. Ensuring good communication and smooth service transition is critical to achieving this however. Q Q Overall Sovereign Conventional Mixed Product Total What information is required for a bulk annuity quotation The items below are required in order to complete a fully guaranteed quotation. Irish Life can provide indicative terms based on partial information at an earlier stage in the process. We would encourage trustees to keep their pensioner records up to date, to give them flexibility around transaction dates, as we have noticed this data collection process can often take much longer than anticipated when it s required. This discount means that sovereign annuities are a key tool in restructuring troubled defined benefit schemes. They have accounted for approximately 75% of the bulk annuity business placed in the market so far this year. They have generally been used in two different ways: Purchased as part of the wind-up of an underfunded scheme to increase the level of coverage for active and deferred members. Purchased as part of a scheme restructuring exercise, in conjunction with agreeing a long term funding plan (and often tied in with a Section 50 application). Individual pensioner data Scheme benefit specification Scheme specific mortality data for large schemes (if available) Industry or occupation background Article Author Shane O Farrell Executive Manager-Risk and Longevity Irish Life Corporate Business 12 Irish Pensions Magazine Autumn 2013

13 Irish Pensions Magazine Autumn

14 Feature Pension Fund Investment Governance - Real Choices for Trustees by Ronan Smith T here is a generous choice of investment frameworks for pension fund trustees to consider for the governance of their funds, whether defined contribution or defined benefit. Along with my colleagues in Verus, I have spent much of the past three years studying the different types of Outsourced Investing model that trustees can use. We have been struck as much by the range of approaches that can be taken, as by the extent to which this field has evolved over the past few decades. Trustees sometimes feel a little bewildered by the complexity of these choices. I would hope, however, that some of the thoughts I have gathered together here, might make addressing questions about the right investment governance framework a little more digestible. Historical perspective A glance backwards through Irish pension fund history tells a story that helps to explain the various governance models used. 1. The Beginning - Single Balanced Manager As professional asset management gained a foothold in pension fund investment in Ireland, the attraction for trustees was the high level of return that appeared to be available from people with expert access to highreturn assets such as equities. Insurance companies had been the natural go-to people for typical pension funds. But medium to large funds, at that stage almost entirely defined benefit plans, began to see investment managers, some of which were owned by insurance companies, as the natural provider. The competition for funds among investment houses led to a growing interest in measuring the performance of investment managers (and a painfully slow improvement in the methods used to do this). The key questions asked were about whether adequate returns were achieved and whether better returns might have been had elsewhere. The natural stewards for this measurement and monitoring were the investment consultants, a function which commonly grew as an adjunct to the actuarial consultancy role but became quite distinct from it. Independent measurement of returns was carried out by consultants, often in the form of peer group comparisons. Manager selection was generally advised by the same consultants, who then carried out ongoing oversight of the investment managers for the trustees. Typically, at the early stages of this period of 14 development (in Ireland from the 1960s to the early 1980s), investment managers ran balanced portfolios covering all or most of the assets of the scheme. We can refer to this as the Single Balanced Manager approach. 2. Asset Allocation - Specialist Manager Approach Techniques introduced by consultants to consider risk in terms of liabilities led to asset allocation being done under guidance of consultants.. The mandates issued to investment managers changed, removing much of the managers discretion in relation to asset allocation. It was a short step from this to the introduction of specialist mandates, where managers were hired to manage a particular asset class or subset of an asset class in which they were regarded as having a particular skill. Trustees now had multiple managers (sometimes two, sometimes a handful, but in the case of some of the largest funds in the world, more than 60 managers directly contracted was not unheard of).the resulting structure was somewhat unwieldy for smaller funds but worked as a governance model for larger funds. The investment consultant played the critical role in policy formulation, asset allocation, manager selection and review, and oversight of the investment activities of the managers. We can refer to this as the Specialist Manager approach. Sometimes consultants and trustees recognised that specialist fragmentation was not economic but still wanted to diversify managers. They assembled two or more reasonably similar balanced managers to compete in real time among each other by managing a portion of the fund. We call this the Split Manager approach. Clearly, the consultant maintains an oversight role where this governance model is used Irish Pensions Magazine Autumn 2013

15 IAPF TRUSTEE NETWORK EVENING SEMINAR Wednesday 13th November Radisson Blu Royal Hotel, Golden Lane, Dublin pm to 5.00pm 6.15pm 25 for Trustees to attend Trustees are having to spend more and more time analysing, monitoring and managing risk. This event will look at one tool trustees can use to do this - the Risk Room. It will also look at what trustees can do when things go wrong. With more disputes between trustees, employers and members how can these be avoided or managed? The discussion will be limited to trustees only in order to allow them the freedom to openly share their own experience and concerns. Timetable: Registration Introduction Chair of Seminar 5.05 Presentation Daniel Radulovic, Zurich Presentation James McConville, McDowell Purcell Solicitors Panel Discussion - Q&A Refreshments Ends Contact: Irish Pensions Magazine Autumn 2013 : :

16 Feature but not an asset allocation role. 3. The delegation of authority - Outsourced Investing The key driver of step-change in this industry began in the 1980s. Very large funds in Holland and then in UK that were managing key investment decisions with inhouse staff made a governance breakthrough. They took the entire implementation of investment policy off the trustees table. Once they had done this for their own, they began selling the service Fiduciary Management to other, typically smaller, pension funds. This is the Fiduciary Management approach. Then consultants made a breakthrough of their own. They turned their investment consulting relationships into investment management services. Rather than overseeing investment management provided by professional managers on behalf of the trustees, the consultants became the high-level investment manager. They leveraged their skill in assessing investment managers to decide upon and implement suitable mixes of managers for trustees. Some have built platforms designed to provide smaller schemes with affordable access to best-in-class investment management. These services are known by various names including Implemented Consulting and Delegated Consulting. Just as consultants extended their services towards investment management, some investment managers, not to be left behind, have extended their services in the opposite direction towards full investment solutions for trustees. Many of them self-style such offerings as Fiduciary Management although in some cases they do not include the full fiduciary service that traditional in-house managers originally developed. All the methods that combine investment policy decisions with investment consulting or manager selection and investment management are best referred to collectively as Outsourced Investing. Outsourced Investing offers trustees of pension schemes, either defined benefit or defined contribution, a potentially significant enhancement to their investment governance. While outsourcing may not be right for all, it is difficult to argue that any fund over 15 million should not at least examine it carefully as a way to proceed. What is available today Trustees need to be to be familiar with the specific Outsourced Investment offerings available to them. Although it is a relatively new development, we have identified at least eight providers of Outsourced Investing in Ireland and are aware of others who would provide the service if they saw an opportunity and others who are considering providing it. Thinking about your scheme Trustees need to consider the different governance models outlined above and assess their implications for the good governance of their own scheme. What will constitute good investment governance will vary from scheme to scheme, depending principally on: The scale of the scheme The experience and skills readily available to the trustees and the independence of those skills Specific service and choice requirements (in defined contribution plans) Funding issues (in defined benefit cases) Regardless of the specific issues in any case, however, formulating the right governance model for investments requires trustees to allocate responsibility, authority and accountability for each of the key phases of the investment process among: The trustees themselves Investment staff Investment consultants Actuarial consultants Investment Managers Achieving rigour and full rationality in such an exercise is difficult. When it is done however, it will enable the trustees to assess which investment governance model works best for them. The author, Ronan Smith, is a founder and principal of Verus Advisory Limited, which provides independent consulting on investment governance and oversight of outsourced investing for Pension funds. Article Author Ronan Smith Director Verus Advisory Limited 16 Irish Pensions Magazine Autumn 2013

17 IAPF DATES FOR YOUR DIARY Event Date Venue Trustee Network 13th November, 2013 Radisson Hotel, Golden Lane Seminar (Benefits) 27th November, 2013 Shelbourne Hotel Seminar (Investment) 14th January, 2014 Shelbourne Hotel Trustee Training (DC Refresher) 14th January, 2014 Chartered Accountants House Trustee Training (DC) 16th January, 2014 Chartered Accountants House Trustee Training (DB) 29th January, 2014 Chartered Accountants House Trustee Network 30th January, 2014 Chartered Accountants House Trustee Training (DB) Refresher 31st January, 2014 Chartered Accountants House Seminar (DC) 6th February, 2014 Shelbourne Hotel Annual Dinner 27th February, 2014 The Burlington Hotel Investment Conference 26th March, 2014 Convention Centre, Dublin Trustee Network 9th April, 2014 Chartered Accountants House IAPF Annual Golf Outing 10th April, 2014 Carton House Trustee Training DC) Refresher 19th March, 2014 Chartered Accountants House Trustee Training (DB) Refresher 21st March, 2014 Chartered Accountants House Trustee Training (DC) 29th April, 2014 Chartered Accountants House Trustee Training (Investment) 30th April, 2014 Chartered Accountants House Trustee Training (DB) 1st May, 2014 Chartered Accountants House Seminar (AGM & Benefits) 8th May, 2014 Chartered Accountants House DC Conference 27th May, 2014 Convention Centre, Dublin the voice of Irish pensions Phone: Website:

18 Expert Opinions Sustainable alpha: construct your portfolio towards repeating your successes by Dave Santry Fixed Income instruments, for long considered safe haven assets, have recently lost this privileged position. The asset class faces yet another concern as interest rate rises are a matter of when rather than if. On the other hand, boom bust cycles have been the norm for the last few years and has led investors to value true uncorrelated performance across multiple assets. As the majority of asset classes exhibit highly unstable correlations, the real challenge for a portfolio manager is to be able to find pure alpha by investing actively in these asset classes. The final performance of these products has to be uncorrelated to major asset classes whilst limiting drawdowns. This pure alpha feature is even more important when we deal with an absolute return product. The main challenge facing a pure alpha producer is to be able to repeat successful performance (risk adjusted or not). We will label this repeatability feature as sustainable alpha. A manager must then have processes in place that leverage on the skill of the participating investment professionals to produce this alpha. The processes should clearly contribute to alpha production either through (1) efficient use of the available risk, (2) effective managing of correlation across different components of the portfolio, and (3) embedded asymmetry designed to limit the impact of drawdowns if success does not materialise. These processes, driven by risk management, have to be done in a way that promotes risk taken rather than risk avoidance. Within Pioneer Investments Portfolio Construction and Risk Budgeting play a fundamental role when combining investment ideas and strategies. To support the combination of different strategies in a single portfolio and to effectively monitor the risk contribution of each strategy, Pioneer Investments has developed a proprietary risk budgeting system supported by a dedicated team: the Portfolio Construction team. The key to sustained successful performance is ensuring that alpha generation is repeatable and drives each step of the investment process. We believe that there are four major families of ingredients that increase the chance of reaching these objectives. Stable and well-articulated performance engine The first and primary challenge in defining the alpha sources is actually the separation of the active part of the portfolio from the non-active part. Although appearing simple, this separation is crucial to define all 18 the bets and risks in place from investments that need systematic hedges. Succeeding in this separation is half the battle. In general, the non-active component should be market neutral. It can be managed in a quantitative way. For example, a well-designed indexation process will help replicate the performance of the benchmark within a sovereign bond fund. For an absolute return fund, investing in a carefully selected portfolio of short term bonds can help realise the index performance. Once this indexed component has been designed and executed, the active component can be implemented in a clear fashion, and derivatives are used to achieve the type of risk the investor wants to be rewarded for. In a more volatile market, alpha generators should keep all options open to find additional sources of performance. It s important to have some alpha producers aiming to generate performance from market normalisation after dislocation, whilst others should be trying to bet on the realisation of these market dislocations. This example illustrates the concept of diversification as being much more than a question of correlation management. However one must guard against the possibility of lower risk adjusted returns as a consequence of this diversity of alpha sources. The more specialised and experienced an investment professional should address this concern. Appropriate sizing of positions In a framework where every investment represents a view on specific market segments and is formulated independently, measuring the risk level appropriately is key to determining the size of positions. This risk measure should provide a way to convert the chosen metric (i.e. percentage weight, DV01) into a unique and comparable indication of position size. Comparing the measures of different investment ideas should then indicate whether the relative size of all the positions is appropriate enough to avoid (1) concentration and (2) offsetting. Concentration may materialise through one investment idea becoming a dominating factor in performance. The second way that concentration materialises is through an increased level of correlation between different investment strategies pushing performance in one direction or another. Irish Pensions Magazine Autumn 2013

19 Expert Opinions Offsetting materialises when investment ideas are negatively correlated. The ideas could then offset each other leading to a loss of effectiveness and little benefit from high conviction trades. Drawdown tools The easiest way to manage drawdown reduce the probability of it happening. The first step to avoid drawdown is to make the diversification of the portfolio as effective as possible. Then sizing the position appropriately as illustrated in the previous section should dilute the effect of unsuccessful investment ideas. It should prepare the ground for an additional layer of protection through drawdown management. As an investment idea is formulated, drawdown levels are set. These levels should determine the maximum loss that can incur in a portfolio from the investment idea. For a highly liquid instrument, the drawdown strategy should mimic being protected by an option but without having to pay the premium. This leads to an absolute return mind-set on the investment idea. Highly diversified investment ideas with appropriate levels of risk are still the best way to ensure that one poorly performing investment strategy will not adversely affect overall performance. Drawdown management helps protect the fund from a single poorly performing investment idea. However, it won t protect against multiple unsuccessful investment ideas. This can happen either due to the low success ratio of the investment ideas, or due to an undesired correlation between the positions. In both cases, monitoring tools on groups of investment ideas using ex-ante and ex-post measures should be done in a systematic way. This helps identify, at an early stage, deviations from expected drawdowns that then allow prompt corrective actions. The risk budgeting system has been one of Pioneer Investments most important developments in recent years. Combining specialised investment skills with a strong risk management discipline allows active managers to better exploit market opportunities, while at the same time paying significant attention to drawdown management making all the difference for clients. Unless otherwise stated all information and views expressed are those of Pioneer Investments as at 13th August 2013 These views are subject to change at any time based on market and other conditions and there can be no assurances that countries, markets or sectors will perform as expected. Investments involve certain risks, including political and currency risks. Investment return and principal value may go down as well as up and could result in the loss of all capital invested. Pioneer Investments is a trading name of the Pioneer Global Asset Management S.p.A. group of companies. Article Author Dave Santry Head of Irish Institional Business Pioneer Investments Portfolio Construction and Risk Budgeting An Integrated Model RISK-ADJUSTED PERFORMANCE Delegated Strategies Management Efficient Drawdown Management Strategies Composition Optimisation Risk Budgets Planning and Review RISK SERVICE PROVIDER Risk Measurement Strategies Definitions PARTNER Page 1 I Dublin, June 2013 Pioneer Investment Conference For Professional Clients acting in an Intermediary Capacity or For Own Account Use Only and Not to be Distributed to the Public Irish Pensions Magazine Autumn

20 IAPF Annual Benefits Conference 2013 The IAPF Benefits Conference took place on the 1st October in the Convention Centre, Dublin. Kindly Sponsored by Pioneer Investments. IAPF Annual Benefits Conference Sponsored by Pioneer Investments Rachael Ingle, Chairperson of IAPF with Joan Burton, T.D. Minister for Social Protection Richard Curran, Journalist, Chair of Conference Michael Curran and Grace Fox, Pioneer Investments Rachael Ingle presenting the PQS Award to Kate Brady of Dell David Greene, Pioneer Investments 20 Irish Pensions Magazine Autumn 2013

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