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Valuation DB Pensions. Con Keating TUC conference, London, 2013 Valuation is a Dark Art Comparison of Current and Possible Methods. An accurate and unbiased approach The method. Start with the primary fair value condition

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Valuation db pensions

ValuationDB Pensions

Con Keating

TUC conference, London, 2013

Valuation is a dark art comparison of current and possible methods
Valuation is a Dark ArtComparison of Current and Possible Methods

An accurate and unbiased approach the method
An accurate and unbiased approachThe method

  • Start with the primary fair value condition

  • present value of contributions must equal the present value of the promised pensions

  • This defines the internal growth rate (IGR) of a scheme

  • This is the weighted average cost of capital for a sponsor employer or equivalently the weighted rate of return on contributions to pensioners.

  • In order to compare apples with apples:

    • Project Liability Expense Cash-Flows

    • Project Asset Income Cash-Flows

    • Compare these at the Internal Growth Rate integral to the awards.

  • This produces accurately accurate, stable and unbiased results

  • The reported liabilities are accurate and the scheme funding ratio correct

Cash flow projections
Cash Flow Projections

  • Asset cash flows – Bonds contractual and Equities constant real income.

Estimating the igr

Solve for IGR under Pv(C) = Pv(P)

Estimating the IGR


  • Contributions are amortised as pensions are paid and members die.


  • The proposed method is precise and accurate.

  • It is a fair value approach.

  • It outperforms all existing and many possible methods

  • It is decision and prediction useful.

  • It varies only with variation in pension and contribution factors.

  • It carries with it incentives for DB scheme provision .

  • And long-term investment.

  • Current figures overstate the deficit

  • If there is a deficit, there are multiple ways of filling it, of which higher contributions is only one.

  • It is right to be concerned that pension finances are sound

  • but it is also right to be sensible.

  • And if time permits...

How long price and information
How long?Price and Information

  • The minimum length of time to distinguish

    price signal from noise

  • If we assume normality in return, we can estimate these times:

  • Only with high return, low volatility strategies are market prices informative. Everywhere else, we are working with noise.


  • Market prices are driven by fear and greed - Anomalies abound

  • Volatility is extremely high.

  • Prices drive returns – Beebower, Brinson.

  • Market returns are negatively correlated

    with GDP growth out to about five years

  • This violates Arrow Debreu fixed point

    efficient resource allocation equilibria.

  • But as we move to long holding periods,

    income dominates and volatility declines.

  • Long term returns are positively

    correlated with GDP growth

  • In other words, short term market price

    moves converge to the long-term

    fundamentals and allocative efficiency

  • But not if we use them as indicators for short-term management actions

  • Such as special contributions and management techniques like LDI which are hedging regulatory and accounting nonsenses.

Expected returns corporate bonds
Expected ReturnsCorporate Bonds

  • Suppose we have tow zero coupon bonds outstanding

    both have the same maturity, but they were issued with different terms and conditions

  • The bond-holder claims in insolvency differ – the issue terms matter