Theme 2:
Liability-Driven Investment
Through its network of specialist investment managers,
BNY Mellon helped pioneer liability-driven investment
in the pension market.
For many years, asset liability matching has been at the heart of
portfolio construction in the insurance industry.
Pension funds, whose liabilities can stretch over decades against a
variable backdrop for inflation, interest rates and scheme member
longevity, have adopted a more holistic approach to asset liability
management known as Liability-driven investment (LDI).
LDI is ultimately designed to address asset/liability mismatches
by modelling portfolios and applying instruments and investment
strategies that could help mitigate the risk of potential loss via
inflation and interest rate movements. The specific LDI strategy
adopted, takes account of the capital, accounting, reporting and
tax impacts of investment decisions on the underlying investor. This
means the exact investment tactics adopted can vary widely from
institution to institution and each will have its own unique profile
and requirements.
In recent years, the development of new synthetic financial
instruments such as interest rate and inflation swaps has added
new flexibility to the LDI market, enabling ever closer matching of
assets and liabilities. The regulatory treatment of such instruments
still needs to be validated, but economic benefits are tangible.
Structuring and timing the implementation of LDI strategies
correctly can be critical and efficient execution of hedging
strategies is key in avoiding unnecessary costs and generating
optimum performance.
The implementation of Solvency II creates a catalyst to review
the asset liability management practices of insurance companies.
This is also an opportunity to consider implementing a more
holistic framework based on LDI strategies. Adopting such
investment strategies requires a dedicated partnership and a
regular exchange of information between the insurer and its
investment manager.
Through its network of specialist investment managers,
BNY Mellon helped pioneer liability-driven investment in the
pension market. We have adapted these strategies to the insurance
industry, factoring in accounting constraints, tax and anticipating
the implementation of Solvency II.
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