DeNederlandscheBank (DNB) issued a working paper this spring about the impact of liquidity and capital constraints on defined benefit pension plans.

The paper has three authors, Dirk Broeders, Kristy Jansen, and Bas Werker. The first named author, Broeders, is the only one formally affiliated with DNB. The others are affiliated with Maastricht and Tilburg Universities, respectively. Their paper contains the usual caution that these are the views of the authors, not those of the DNB itself.

The relevant definitions are as follows:

Liquidity constraints are the limits faced by pension fund managers by virtue of their short term payment obligations and the collateral requirements on derivatives.

Capital constraints are those limits created by the need to retain sufficient capital to absorb shocks.

The specific issue the paper addresses is what is the impact of these constraints on the degree to which pension plans invest in illiquid assets.

Greater investment in such assets by such funds – the assets involved include real estate, mortgages, private equity, hedge funds, and private equity funds – has been an important recent trend. An estimate by the Towers Watson Global Pension Asset Study a couple of years ago had it that pension funds were allocating just 5% to illiquid assets in 1995 and this had gone up to 20% by 2015.

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