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We explain the basics of how pension funds devise their investment strategies, how the investment process works and how the two are assessed. And we tell you about the key terms and key figures.
But let’s start at the beginning. Pillar 2 occupational benefits insurance is anchored in the Swiss constitution and governed by the Federal Act on Occupational Old Age, Survivors’ and Invalidity Pension Provision (Occupational Pensions Act (BVG/OPA)). Occupational benefits insurance is financed in equal measure by both employers and employees.
A pension fund is an independent private-law institution that generally takes the form of a foundation. The highest-level body of a foundation is the board of trustees, which is responsible for the overall management of the pension fund, determining the investment strategy and ensuring that the pension fund is sustainably managed and stable from a financial perspective.
The investment strategy defines how the pension fund assets are invested. This strategy must take into account: the pension benefits it has promised (financial obligation to active insureds and retired members), the composition and evolution of the pool of insureds, the investment return needed to finance the fund and the risk tolerance and risk capacity.
Once these key parameters have been established, the fundamental issues regarding the structure will be clarified, such as:
The board of trustees is the foundation’s highest governing body with equal employer and employee representation. It assumes the fiduciary management of the foundation on behalf of the members of the pension fund. The board of trustees is responsible for the financial equilibrium of the foundation. The pension fund’s investment strategy plays a key role in this respect. The board of trustees defines the framework used to invest the pension fund’s investment assets and lays this out in the investment regulations. This includes, among other things, the control parameters used to evaluate the targeted investment results (benchmarks), the guidelines for implementing the investment strategy and the basic rules for oversight and reporting.
The purpose of the investment strategy is to:
In general, statutory provisions give Swiss pension funds the latitude to choose their investment strategy provided that they comply with the investment guidelines and provisions regarding the maximum ratios per investment class, as specified by BVV2/OPO2 (currently not available in english).
The investment process is the implementation of the defined investment strategy. The process decides who will be responsible for implementing the investment strategy (asset management, may be done internally or externally), how much freedom the asset managers have, how the work of the asset managers is reviewed and which metrics are used to assess the investment performance. The board of trustees is responsible for guaranteeing this process.
As selecting the right asset management is vital for a pension fund, a great deal is invested in the selection and oversight procedures.
Some examples of asset classes are liquid funds, bonds, real estate, equities or alternative investments. Alternative investments could be private debt, private equity or commodities and precious metals, for example. Alternative investments are subject to certain restrictions.
Permissible investments are more clearly defined in the Ordinance on Occupational Old Age, Survivors’ and Invalidity Pension Provision (BVV2/OPO2) (Art. 53 ff. BVV2/OPO2) (currently not available in english).
The pension assets that the pension fund invests are for the most part comprised of the retirement assets and actuarial reserves of active insureds and persons drawing a pension.
Retirement assets are made up of the retirement savings of insureds as well as the annual savings contributions paid in by employees and employers. These assets will accrue interest at the end of the year and be reinvested.
The actuarial reserves from pensions (such as retirement pensions) and the foundation’s reserves are also invested.
Asset managers oversee the operative implementation of the investment strategy of a pension fund. To do this, they use the rules defined in writing by the board of trustees in the investment regulations. The regulations govern:
There are various metrics that can be used to help the board of trustees assess the work, and particularly the success, of the asset managers. The board of trustees compares the investment return with the previously defined benchmarks and considers other issues, such as:
Insureds are able to influence the investment strategy if they can choose a pension solution that provides leeway of this kind (1e retirement solution). This is only possible, of course, if the employer has joined a pension fund with such solutions. Typically, this happens with retirement vehicles for higher earners.
Would you like to give your employees a greater say in their retirement plans? AXA’s 1e Invest offers personalized investment strategies that give you a great deal of customization for your retirement plans.
Insureds can also apply to join the board of trustees of their collective foundation.
This depends on the financial and structural situation of the pension fund. As well as on how high the funding ratio is or on the ratio of active insureds to persons drawing a pension. Based on these figures, the pension fund can pass on the realized return to active insureds in the form of higher interest or use it to finance current pensions (the so-called technical interest rate on actuarial reserves).
Pension funds are increasingly moving towards transparent participation models. One such example is the interest model used by the AXA Foundation for Occupational Benefits.
Prudently managed pension funds pursue a long-term investment horizon. Short-term fluctuations in the value of investments are offset by the fluctuation reserves that have been created.
Pension funds with good financial and structural risk capacity can employ a more offensive investment strategy. This means, for example, that they invest more in equities and less in bonds. Since the value of equities is more volatile than bonds, pension funds that have a large equity component should create fluctuation reserves to offset this. This way they can absorb short-term fluctuations. The investment strategy also defines how a pension fund handles risks.
In operative implementation, such as in the portfolio, asset managers review on a daily basis the investment risks taken and whether the pre-defined ranges have been observed.
Fundamentally, yes. But the likelihood is extremely low. For one thing, fluctuations (i.e. volatility) on the financial markets are normal, and so the board of trustees will already have accounted for this in the investment strategy. And for another, every pension fund has joined what is known as the Guarantee Fund, a type of safety net, so that in the worst case the statutory benefits are guaranteed. This means this if a pension fund were to take bankruptcy, the insureds’ entitlements are guaranteed.
It’s important to note that bankruptcy has nothing to do with a pension fund being temporarily underfunded. Bankruptcy means that the pension fund is insolvent. An occupational benefits institution is deemed insolvent when it can no longer pay the benefits due under its regulations and when remediation is no longer an option (Art. 25 (1) SFV/GFO) (currently not available in english). The decision whether remediation is possible or whether the liquidation process should be initiated is made by the regulatory authority.
Underfunding means that the obligations of the pension fund are greater than its assets. In this case the funding ratio is less than 100 percent. This can happen, for instance, in the event of sudden fluctuations on the investment markets.
Sustainable investments are a hot topic, also at pension funds. The Swiss Pension Fund Association has drafted a Charter (currently not available in english) and also provides ESG reporting standards (currently not available in english), for example. There are no legal provisions regarding sustainability. This makes it possible for every pension fund and the board of trustees to decide how sustainably they want to invest their funds.
Every pension fund has a different investment strategy that is geared to its individual needs and risk capacity.
The board of trustees draws up the investment strategy which defines the promised pension benefits and the basic framework for the portfolio structure, also taking into consideration factors such as the composition and evolution of the pool of insureds.
The operative investment process is then implemented by the asset managers the board of trustees has selected. The board of trustees defines in advance how it will monitor the work and investment performance of the asset managers, and which metrics it will use.
The primary aim of a pension fund is always to structure its investments to offer the best possible risk/return ratio.
The investment strategy is not the only criteria used to determine how stable the pension fund is. Here you can learn how to better assess the performance of a pension fund.
Nadine Graf is a theme manager and writes texts for AXA on topics related to insurance and beyond.
