Asset Liability Management deals with the interaction of the sources and uses of funds that rum through banks financial statements. The growth of funded pensions and the increasing emphasis on risk management should strengthen the role of pension funds as stable, long-term institutional investors. However, this requires (among other priorities) that investment strategies more fully address the specific nature and structure of pension fund liabilities, thereby differentiating pension funds from many other institutional investors. Rather than seeking to report a profit or to outperform various indices, the ultimate purpose of DB pension schemes is to meet their future pension liabilities. In particular, this requires that the liabilities be covered by suitable assets (i.e., an ALM focus). However, pension fund investment and risk management practices have often focused more on asset returns than the actual liability structure of the pension balance sheet. In part, this is because assets are more easily adjusted in the short term to meet changing circumstances than pension liabilities, and because full actuarial recalculations typically only occur once every three years, with partial updates (e.g. reviewing assumptions such as inflation and prospective investment returns) only once a year or possibly every six months. One consequence of a limited focus on liabilities and ALM is that, in practice, many pension funds have pursued investment strategies measured relative to broad market indices. ...
managers wishing to limit the volatility of their regulatory funding ratios may hold larger
allocation of assets with a higher correlation (or matching) to the discount rate used for
liabilities. Corporate bond yields are increasingly used by pension regulators as the
relevant discount rate for liabilities (David 1995, Frank J 1997).
Thus, investment by pension funds should be adequately
regulated. These includes the need for an integrated assets/liability management approach
for both institutional and function approaches, and the coordination of principles related
to diversification, dispersion and matching by currency and maturity. Quantitative
regulations, and prudent/person or expert principles should be carefully assessed, having
regard to both the security and profitability objectives of pension funds. Self-investment
should be limited, unless appropriate safeguard exist. Liberalization of investment abroad
by pension funds should be promoted, subject to prudent management principles.
Matching Principles of Asset Liability Management :
Currency matching is a basic principle of investment management, but one that must be
approached comprehensively. Derivatives might be used for this purpose if they help to
achieve such a match. Also, matching the maturities of assets and liabilities is essential,
and it is required that a framework of general principles be instituted. In this regard it is
important that the regulation of the investment portfolio takes the portfolios of
commitments into account. The maturity of pension funds play a key role in the
investment strategies. The matching may, on the other side, be heavily