Upgrade in sophistication for LDI strategies as demand rises

While liability-driven investing (LDI) has been gaining in popularity for several years among mainly defined benefit pension plans, the strategy and products are about to get an upgrade in sophistication, according to Russell Investments.

Russell, which has been a leading proponent of LDI in general and “target-date funds” in particular (which provide the strategy for non-institutional clients), says that LDI could become a foundation for the investment strategies of a majority of pension plans in the US within the next five years.

In its latest Russell Retirement Report – 2009, the firm says the extraordinary market events of the past few months will lead to an increased focus on LDI and also to changes in the way that LDI programs are built.

“The focus of programs will move beyond interest rate risk to incorporate other factors, including credit risk, yield curve risk and timing. In time, the nature of LDI will change again as risk transfer solutions become more widespread,” the report says.

Bob Collie, Russell director of investment strategy and author of the report, said that LDI programs had been primarily designed around managing interest rate risk, but last year it turned out that other risks mattered more.

Biggest of all was equity risk and counterparty risk worked its way up the list of concerns. Several risks that had been seen as second order and less pressing are now prime considerations for any LDI program, he said.

A copy of the report is available to pension fund executives who register at: www.russell.com/rr2009.