In Depth

Illiquid Investing: Enhancing Returns Within Plan Limits

Many defined benefit plans have the ability to materially increase illiquid investments while complying with funding ratio and liquidity requirements.

The investment horizon of defined benefit (DB) plans generally spans decades. In fact, actuaries often project cash flows 60 years to 80 or more years into the future. Despite the multi-decade timeline, most DB plans maintain high levels of short-term liquidity that do not reflect the plan’s capacity to capture additional potential returns through illiquid investments. Even plans with significant liabilities and regular cash distribution requirements often reserve more liquidity than necessary.

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The Author

Edward Sasinowski

Account Manager

Min Xiao

Strategist, Asset Allocation Solutions


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1 Pastor, Lubor and Stambaugh, Robert F. (2003): “Liquidity Risk and Expected Stock Returns,” The Journal of Political Economy,
Volume 113, No. 3, 642-685.

2 97.5%VaR is used to measure tail risk.

3 Under the Pension Protection Act of 2006 and the Multiemployer Pension Reform Act of 2014, pension plans are classified based on numerous criteria that assess the strength of the plan’s funding position. Critical status (“Red Zone”) is one of the lowest of these classifications. Although red zone status entitles the plan to certain useful tools (e.g., the option to reduce certain benefits), it subjects the plan to rigorous required actions and operational constraints (such as contribution surcharges and adoption of a rehabilitation plan intended to improve the funded position).

The following disclosures may not include all risks related to investing in private equity and hedge fund strategies. Additionally, this material is not intended to provide, and should not be relied on for, accounting, legal, or tax advice. Investors should consult their tax or legal advisor regarding such matters. The value of real estate and portfolios that invest in real estate may fluctuate due to: losses from casualty or condemnation, changes in local and general economic conditions, supply and demand, interest rates, property tax rates, regulatory limitations on rents, zoning laws, and operating expenses.

General risks about private equity and hedge fund strategies: The strategies involve a high degree of risk and prospective investors are advised that these strategies are suitable only for persons of adequate financial means who have no need for liquidity with respect to their investment and who can bear the economic risk, including the possible complete loss, of their investment. All investments contain risk and may lose value. The strategies will not be subject to the same regulatory requirements as registered investment vehicles. The strategies may be leveraged and may engage in speculative investment practices that may increase the risk of investment loss. The strategies are not expected be restricted to track a particular benchmark. A strategy’s fees and expenses may offset its trading profits. The portfolio manager(s) are expected to have broad trading authority over a particular strategy. The use of a single adviser applying generally similar trading programs could mean lack of diversification and, consequently, higher risk. The strategies generally involve complex tax structures and there may be delays in distributing important tax information. A substantial portion of the trades executed for certain strategies may be in non-U.S. securities and take place on non-U.S. exchanges. Certain strategies may invest in non-publicly traded securities which may be subject to illiquidity risk. Performance could be volatile; an investor could lose all or a substantial amount of its investments. Past performance is not a guarantee or a reliable indicator of future results.

Expected Return and return assumptions are for illustrative purposes only and are not a prediction or a projection of return. Expected Return and return assumptions are an estimate of what investments may earn on average over the long term. The actual realized return on unrealized investments will depend on, among other factors, future operating results, interest rates, economic and market conditions and the value of the underlying assets at the time of disposition, as well as any related transaction costs and the timing and manner of disposition, all of which may differ from the assumptions on which projections are based. Investors should bear in mind that the past or estimated performance of these investments is not necessarily indicative of future results, and that there can be no assurance that these returns will be achieved or that any portfolio will achieve comparable results. In addition, an investor’s return on investments will be impacted by fees and expenses which are not reflected in the portfolio analysis shown.

The portfolio analyses are based on hypothetical portfolios and no representation is being made that the structure of the average portfolio or any account will be the same or that similar results will be achieved. Results shown may not be attained and should not be construed as the only possibilities that exist. Different weightings in the asset allocation illustration will produce different results. Actual results will vary and are subject to change with market conditions. There is no guarantee that results will be achieved. No fees or expenses were included in the estimated results and distribution. The scenarios assume a set of assumptions that may, individually or collectively, not develop over time. The analysis reflected in this information is based upon data at time of analysis. Forecasts, estimates, and certain information contained herein are based upon proprietary research and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product.

PIMCO routinely reviews, modifies, and adds risk factors to its proprietary models. Due to the dynamic nature of factors affecting markets, there is no guarantee that simulations will capture all relevant risk factors or that the implementation of any resulting solutions will protect against loss. All investments contain risk and may lose value. Simulated risk analysis contains inherent limitations and is generally prepared with the benefit of hindsight. Realized losses may be larger than predicted by a given model due to additional factors that cannot be accurately forecasted or incorporated into a model based on historical or assumed data.

We employed a block bootstrap methodology to calculate volatilities. We start by computing historical factor returns that underlie each asset class proxy from January 1997 through the present date. We then draw a set of 12 monthly returns within the dataset to come up with an annual return number. This process is repeated 25,000 times to have a return series with 25,000 annualized returns. The standard deviation of these annual returns is used to model the volatility for each factor. We then use the same return series for each factor to compute covariance between factors. Finally, volatility of each asset class proxy is calculated as the sum of variances and covariance of factors that underlie that particular proxy. For each asset class, index, or strategy proxy, we will look at either a point in time estimate or historical average of factor exposures in order to determine the total volatility.

This material contains the current opinions of the manager and such opinions are subject to change without notice. This material has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Statements concerning financial market trends are based on current market conditions, which will fluctuate. This material is distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed.