Pension funds

Examples of Pension funds in the following topics:

• Contractual Saving

  • Contractual saving institutions are insurance companies and pension funds.
  • Pension funds are another contractual savings institution.Many people save money for retirement, and pension funds become a vital form of saving.Some employers sponsor pension funds as a job benefit, or workers can voluntarily pay into personal retirement accounts.Then the financial companies manage the pension funds, and they invest pension funds into the financial markets.Pension fund managers can accurately predict when people will retire and usually invest in long-term securities, such as stocks, bonds, and mortgages.A person can only receive benefits from the pension fund after the person becomes vested.Vested means employees must work for their employer for a time period before they can receive the benefits from the pension plan.Time period varies for the pension funds.For example, some city governments require a person to be employed by the city for 10 years before this person becomes 100% vested in the city's pension plan.
  • Employers have three reasons to offer pension plans to employees.First, the pension fund managers can more efficiently manage the fund, lowering the pension funds' transaction costs.Second, the pension funds may offer benefits such as life annuities.A life annuity is a worker contributes money into the annuity until he retires.Then the worker receives regular payments every year from the annuity until his death.Life annuities could be expensive if a worker buys them individually.However, a large employer with many employees can request discounts from pension plans.Finally, the government does not tax the pension fund as workers invest funds into it, allowing the fund to grow faster.Nevertheless, government usually imposes taxes on withdrawals from a pension fund.If the employer offered higher wages and no pension plans to the employees, then the government taxes the greater income, reducing the amount an employee could invest into a retirement plan.
  • Employers have two choices for the ownership of a pension plan.First, employees own the value of the funds in the pension plan, called a defined contribution plan.If the pension fund is profitable, subsequently, the retired employees will receive greater pension income.If the pension fund is not profitable, then the retired employees will receive a low pension income.Companies that have a defined-contribution plan are likely to invest the pension funds into the companies' own stock.That way, employees have an incentive to be more productive because the value of their pension plan depends on their company's profitability.However, this pension fund becomes dangerous if this company bankrupts.Then the employees own worthless stock.One infamous case was the Enron collapse in 2001.Some employees were millionaires until their stock portfolios collapsed in value overnight.Second, the most common type of plan is the defined-benefit plan.An employer promises a worker a specific amount of benefits that are based on the employee's earnings and years of service to the company.If this pension fund is profitable, the company pays the promised benefits and retains the remaining funds that are not paid to the retired employees.If the pension fund is unprofitable, then the company pays the promised benefits out of its own pocket.
  • Federal and state governments regulate the pension funds.Regulations require the managers of the pension funds to disclose all investments.That way, employees know which securities the pension fund managers have invested in.Regulations help prevent fraud and mismanagement.Unfortunately, a pension fund will bankrupt, when the company where the employees work bankrupts.Consequently, Congress created the Pension Benefit Guaranty Corporation that insures pension fund benefits up to a limit if the company cannot meet its obligations.Some economists believe a pension fund disaster will occur for state and local government retirees after 2012.Many state and local governments offered generous defined-benefit plans to public employees, and they have not placed enough money aside to fund the pension plans.

• Market Actors

  • Investors can include: pension funds, insurance companies, mutual funds, index funds, exchange-traded funds, and hedge funds.
  • Other classes of intermediaries include: credit unions, financial advisers or brokers, collective investment schemes, and pension funds.
  • A pension fund is any plan, fund, or scheme that provides retirement income.
  • Pension funds are important shareholders of listed and private companies.
  • The largest 300 pension funds collectively hold about $6 trillion in assets.

• Purchase Process

  • Most individuals purchase bonds via a broker or through bond funds.
  • Bonds are bought and traded mostly by institutions like central banks, sovereign wealth funds, pension funds, insurance companies, hedge funds, and banks.
  • Insurance companies and pension funds have liabilities which essentially include fixed amounts payable on predetermined dates.
  • Bond funds typically pay periodic dividends that include interest payments on the fund's underlying securities plus periodic realized capital appreciation.
  • Most bond funds pay out dividends more frequently than individual bonds.

• Advantages of Bonds

  • Bonds are bought and traded mostly by institutions like central banks, sovereign wealth funds, pension funds, insurance companies, hedge funds, and banks.
  • Insurance companies and pension funds have liabilities, which essentially include fixed amounts payable on predetermined dates.
  • Most individuals who want to own bonds do so through bond funds.

• Answers to Chapter 5 Questions

  • Mutual funds and finance companies.
  • For example, Vanguard offers mutual funds, while GMAC offers financing for automobiles.
  • Insurance companies and pension funds.
  • For example, AIG is a large insurance company, while TIAA-Cref is a pension company for teachers and professors.

• Beta Coefficient for Portfolios

  • A pension fund that seeks to maximize its reward and limit its risk might be interested in each of these portfolios.
  • But let's say you have $300,000 to invest; you could put that in a fund that is indexed to the S&P 500 and is perfectly correlated with it.
  • Every time the S&P gains 1%, your fund nets you 100,000 in fund A and S Misplaced &3,000 and your position in fund B pays you 2,000, which is less damage than you would have suffered on your position in the S&P index fund.
  • On days when the S 3,000 and your fund A position loses 2,000 and your upside is limited by the same amount, your downside is reduced.
  • A pension fund is a good example of an institutional client that could extend the principles of diversification to a pool of blended portfolios.

• Securitization and the 2008 Financial Crisis

  • Securitization is similar to a mutual fund.
  • Consequently, the investment banks earned fees from the fund's setup and from the fund's management.
  • Many investors and pension fund managers only invest in AAA rated securities.
  • For example, many state governments require pension fund managers to invest in AAA rated investments.
  • Thus, the Wall Street Bankers sold their CDOs to pension funds for police, teachers, and government workers.

• Reinvestment Risk

  • The risk resulting from the fact that interest or dividends earned from an investment may not be able to be reinvested in such a way that they earn the same rate of return as the invested funds that generated them.
  • Pension funds are also subject to reinvestment risk.

• Price Risk

  • Price changes in a bond will immediately affect mutual funds that hold these bonds.
  • This can be damaging for professional investors such as banks, insurance companies, pension funds and asset managers (irrespective of whether the value is immediately "marked to market" or not).
  • As with interest rate risk, this risk does not affect the bond's interest payments (provided the issuer does not actually default), but puts at risk the market price, which affects mutual funds holding these bonds, and holders of individual bonds who may have to sell them.

• Role of Financial Markets in Capital Allocation

  • Financial markets attract funds from investors and channel them to enterprises that use that capital to finance their operations and achieve growth, from start-up phases to expansion--even much later in the firm's life.
  • Money markets allow firms to borrow funds on a short-term basis, while capital markets allow corporations to gain long-term funding to support expansion.
  • Funds borrowed from the money markets are typically used for general operating expenses, to cover brief periods of illiquidity.
  • Many individuals are not aware that they are lenders providing capital, but many do lend money at least indirectly, for example when they put money in a savings account or contribute to a pension.