Integrating corporate ownership and pension fund structures: A general equilibrium approach

This paper studies pension fund design in the context of investment in the debt and equity of a firm. We employ a general equilibrium framework to demonstrate that: (i) the asset location ‘puzzle’ is purely a partial equilibrium phenomenon, conceived in a risk neutral setting, that disappears with the introduction of sufficient risk aversion; (ii) the inability of policy makers to manage an economy with multiple firms yields a mixed equilibrium, where bonds are observed in both taxable and tax-deferred accounts; and (iii) the Pareto-efficient pension plan comprises of a defined benefit plan.     

The effect of pension accounting on corporate pension asset allocation

We examine the impact of new pension disclosures and subsequent full pension recognition under FRS 17 and IAS 19 in the United Kingdom and SFAS 158 in the United States on pension asset allocation. These standards require recognition of net pension surplus/deficit on the balance sheet and actuarial gains/losses in other comprehensive income. Therefore, these standards introduce volatility into comprehensive income and balance sheets. We identify a disclosure period during which UK companies disclosed all the required data under FRS 17 in the notes without recognition. We also identify a full recognition period starting 1 year before until 1 year after the adoption of FRS 17/IAS 19 (UK) and SFAS 158 (US). We predict and find that UK companies, on average, shifted pension assets from equity to debt securities during both the disclosure and the full recognition periods. We also find that while before the adoption of SFAS 158 US companies maintained a stable allocation to equities and bonds, these companies, on average, shifted funds from equities to bonds around the adoption of SFAS 158. Cross-sectional analysis shows that the shift away from equities is related to changes in funding levels, shorter investment horizons, increased financial leverage, and the expected impact of the new standards on shareholders’ equity.     

The selection of multinational equity portfolios: forecasting models and estimation risk

The problem considered is the selection of a portfolio of international assets, particularly the forecasting of the inputs to a selection algorithm. Four models of the asset return generating process are considered, two of which ignore the international nature of the universe of assets, two which exploit it in different ways. Several estimation methods are considered for each component: expected return, variance and covariance of returns. The combinations of model and estimation method are first evaluated in terms of their forecasting performance for the components mentioned for the individual assets. The universe used is the components of the Financial Times Eurotrack 100 Index. Significant differences were found between the forecasting accuracy of the methods considered for each component. In the final stage of the analysis, a comparison of the returns on portfolios chosen using each combination showed a significant difference. The analysis suggests that the choice of estimation method is more critical than the choice of pricing model.     

Effect of corporate tax avoidance activities on firm bankruptcy risk

Corporate tax avoidance has been shown to raise the cost of bank debt and lower credit and bond ratings. However, it is unclear whether tax avoidance actually increases a firm’s bankruptcy risk or whether it is just viewed negatively by banks and rating agencies. We find that firms engaging in tax avoidance and firms that are thinly capitalized face higher bankruptcy risk. To account for endogeneity and functional form misspecification, we verify our results using instrumental variable and propensity score matching methods. Our findings are consistent with the view that tax avoidance is a risk-enhancing activity.     

The effect of unfunded pension liabilities on corporate bond ratings,default risk,and recovery rate

Unfunded pension liabilities lower ratings of non-senior secured bonds but do not affect ratings of senior secured bonds due to their higher seniority. Pension funding improvement (deterioration) is associated with bond rating upgrade (downgrade). Moreover, large unfunded liabilities increase bond default risk and reduce the recovery rate of bondholders after controlling for credit ratings, suggesting that bond ratings do not fully capture pension underfunding risk. Overall, our results highlight the important effects of unfunded pension obligations on bond ratings, default risk, and creditors’ payoff, and suggest that investors should look beyond bond ratings in making investment decisions.     

Managerial risk taking incentives and corporate pension policy

We examine whether the compensation incentives of top management affect the extent of risk shifting versus risk management behavior in pension plans. We find that risk shifting through pension underfunding (and, to a lesser extent, through pension asset allocation to risky securities) is stronger with compensation structures that create high wealth-risk sensitivity (vega) and weaker with high wealth-price sensitivity (delta). These findings are stronger for chief financial officers (CFOs) than for chief executive officers (CEOs), suggesting that pension policy falls within the CFO’s domain. Risk shifting through pension underfunding is also lower when the CFO’s personal stake in the pension plan is larger. Overall, these findings show that top managers’ compensation structure is an important driver of corporate pension policy. They also highlight firms within which the moral hazard concerns fueled by Pension Benefit Guaranty Corporation insurance are most relevant.     

Forced retirement risk and portfolio choice

Current literature on the effect of labor income on portfolio choice overlooks that workers face a risk of being forced to retire before their planned retirement age. Using data from the Health and Retirement Study, this paper finds that the forced retirement risk is both significant and highly correlated with stock market fluctuations. Using a life-cycle portfolio choice model, this paper shows that forced retirement risk makes labor income near retirement stock-like. Therefore, contrary to conventional wisdom, those who are still working but near retirement should have a lower share of risky assets in their financial portfolios than retirees do.     

The creation of wealth

The paper is concerned with the existence of a consumption sequence that implies wealth to grow at a given rate. It is shown that under reasonable assumptions such a sequence exists and can be determined by solving a fixed-point problem.     

The minimum variance hedge and the bankruptcy risk of the firm

In this paper, we analyze the influence of hedging with forward contracts on the firm's probability of bankruptcy (POB). The minimization of this probability can serve as a substitute for the maximization of shareholders' wealth. It is shown that the popular minimum variance hedge is generally neither necessary nor sufficient for the minimization of the firm's POB. Moreover, our model suggests a correction of the widespread view that a reduction in the variance of the future value of the firm is inevitably accompanied by a reduction in its default risk. We derive an analytical solution for the variance-minimizing hedge ratio of a firm exposed to both input and output price uncertainty that takes into account the issue of correlation. Based on this solution, we provide a graphical analysis to prove our claim that there is a fundamental difference between hedging policies focused on bankruptcy risk and those following conventional wisdom even if positive correlation constitutes a “natural” hedge.     

Earnings management and the allocation of net periodic pension costs to interim periods

We examine the pattern of reported quarterly net periodic pension costs. Quarterly pension costs are one of the largest single expense items for firms with pension plans (around 15% of income before extraordinary items in our sample). Under ASC 270, net pension costs should be recognized as incurred, or as the benefit provided by the expense is realized. We find that over the period of 2004–2010, there is significant variation in the amount of quarterly pension cost firms report. In addition, we find that income-increasing changes in pension costs are significantly associated with meeting or beating analysts' forecasts in a given quarter. We also show that income-decreasing changes to net periodic pension costs that would cause a firm to miss its earnings forecast are extremely rare. Finally, we find evidence that income-increasing and income-decreasing changes in quarterly pension costs are “settled up” in the fourth quarter (e.g., they are reversed).     

中国企业年金的改革与发展

企业年金是养老保险体系的重要支柱之一。为适应社会主义市场经济的发展和老龄化的趋势,有必要借鉴国外企业年金的发展经验,促进我国企业年金健康发展。     

The effect of corporate diversification on credit risk: new evidence from European credit default swap spreads

This article investigates the impact of corporate diversification on credit risk. To our best knowledge, this is the first paper to use credit default swap (CDS) spreads instead of bond yield or revalued book values to test the risk‐reduction hypothesis. The analysis relies upon a sample of STOXX^® EUROPE 600 index members and covers the years 2010–2014. After controlling for various CDS‐ and firm‐specific variables, we find that diversification strategies do not significantly lower CDS premiums. Multilevel mediation analysis further shows that information asymmetries overcompensate the risk‐reducing effects resulting from corporate diversification.     

The effect of risk on intertemporal choice

The strong similarities between intertemporal and risky choice raised the possibility that risk and time delay were psychologically interchangeable in the way they influence preference. Consistent with the single‐process view, several previous studies have indicated that introducing uncertainty to intertemporal choice could decrease the degree of discounting future rewards just as adding time delay to it. However, the opposite effect has been observed in other cases. The present study examined the role of risk in intertemporal choice using the choice titration procedure. The results of two experiments indicated that risk and time delay had opposite effects on the preference in intertemporal choices. That is, the external uncertainty increased the degree of discounting future, whereas the opposite is true for time delays. Thus, our results were unfriendly to the single‐process theory. In addition, the present study demonstrated the presence of an immediacy effect as well as a magnitude effect in intertemporal choice regardless of whether or not the reward is certain.     

The effect of estimation risk on optimal portfolio choice

This paper determines the effect of estimation risk on optimal portfolio choice under uncertainty. In most realistic problems, the parameters of return distributions are unknown and are estimated using available economic data. Traditional analysis neglects estimation risk by treating the estimated parameters as if they were the true parameters to determine the optimal choice under uncertainty. We show that for normally distributed returns and ‘non-informative’ or ‘invariant’ priors, the admissible set of portfolios taking the estimation uncertainty into account is identical to that given by traditional analysis. However, as a result of estimation risk, the optimal portfolio choice differs from that obtained by traditional analysis. For other plausible priors, the admissible set, and consequently the optimal choice, is shown to differ from that in traditional analysis.     

The business case for regulation of corporate social responsibility and accountability

This paper develops an alternative (or supplementary) theoretical justification for the regulation of corporate social responsibility (CSR) and social and environmental accounting and reporting (SEAR) to the justification contained in the extant academic literature. It does this by demonstrating how, contrary to the dominant business discourse, increased regulation designed to protect the social and environmental interests of a range of stakeholders can also serve to enhance corporate economic performance and shareholder value.

The theoretical perspectives developed in this paper are drawn from Beck's and Giddens’ theories on reflexive modernity, and indicate that reflexively appropriated knowledge can be a key factor in developing socially constructed understandings of the social and environmental risks to a range of stakeholders inherent in business operations.

In situations where voluntary self-regulation of CSR and SEAR has been ineffective in preventing corporate actions and decisions that have resulted in damaging social and environmental consequences, processes of reflexivity can substantially increase public awareness of the level of risk they face from corporate operations. Such increased perceptions of risk can lead to a loss of trust in an individual corporation or a whole industrial sector, and this can be exacerbated where stakeholders begin to actively seek out alternative risk discourses to inform themselves about possible risks of which they were previously unaware. We argue that effective statutory regulation could avoid these outcomes, and the loss of shareholder economic value that can flow from these outcomes.     

Bad company. The indirect effect of differences in corporate governance in the pension plan industry

This paper analyses the role played by pension plan governance structure and how it impacts on plan fees and plan performance. The results clearly show that fees decrease significantly and performance improves when pension plan governance structures permit full alignment of interests and allow greater capacity for the decision-makers to monitor and discipline the managers. It is also observed that companies managing both employee and individual funds, tend to exploit differences in the internal corporate governance mechanisms of each type of plan in order to nurture employer-sponsored plans at the expense of individual plans. These results suggest that internal corporate governance mechanisms allowing closer alignment with the interests of participants would be preferable to focusing exclusively on setting the minimum proportion of independent directors.     

Covid-19, corporate survival and public policy: The role of accounting information and regulation in the wake of a systemic crisis

The economic crisis triggered by the Covid-19 pandemic prompted governments to issue several relief mechanisms to hold up companies and workers. This study analyzes how accounting information and regulation can support policymakers in the wake of a systemic crisis. Based on an accounting-based framework and readily available data from financial statements, it forecasts the impact of the crisis in terms of losses, equity depletion, and corporate defaults, absent government intervention. Next, it quantifies the costs and effects of five relief mechanisms in alleviating the risk of generalized corporate bankruptcies. The effects of the health pandemic and relief mechanisms on profitability and equity shortfalls are estimated for a sample of 586,076 privately held Italian firms. The findings indicate that the number of companies facing bankruptcy risk would increase from 65,463 (11% of the population) in 2019 to 153,681 (26%) in 2020, absent any government intervention. Altogether, these firms employ 1.4 million employees and have a total exposure to the financial industry equal to €68 billion in loans. Next, we assess the effects of relief mechanisms introduced by the Italian government to support corporations, whose aggregate costs reach €49.33 billion in 2020, and find that the interventions ‘rescue’ about 43,000 firms otherwise in default. Finally, the study adds to the debate on the role of accounting regulation in the wake of a systemic crisis by (a) discussing the effects of temporary changes to accounting rules on the informativeness and transparency of financial statements, and (b) suggesting alternative ways to modify accounting rules to safeguard corporate survival without compromising the informativeness of financial statements once the crisis reaches a halt.     

Learning risk preferences from investment portfolios using inverse optimization

The level of risk an investor can endure, known as risk-preference, is a subjective choice that is tightly related to psychology and behavioral science in decision making. This paper presents a novel approach of measuring risk preference from existing portfolios using inverse optimization on mean–variance portfolio allocation framework. Our approach allows the learner to continuously estimate real-time risk preferences using concurrent observed portfolios and market price data. We demonstrate our methods on robotic investment portfolios and real market data that consists of 20 years of asset pricing and 10 years of mutual fund portfolio holdings. Moreover, the quantified risk preference parameters are validated with two well-known risk measurements currently applied in the field. The proposed methods could lead to practical and fruitful innovations in automated/personalized portfolio management, such as Robo-advising, to augment financial advisors’ decision intelligence in a long-term investment horizon.     

The real risk in pension forecasting

The purpose of this paper is to shed light on some of the flaws in the forecasting approach undertaken by the pension industry. Specifically, it considers the treatment of inflation and shows that the current modeling framework is too simplistic. I identify the flaws of the existing regulatory framework and provide an alternative full model framework constructed around the three-factor diffusion model recently proposed by the Danish Society of Actuaries. By use of a simulation study I compare the deterministic inflation scheme applied in the industry to a stochastic scheme and show that the real value of the pension saver’s investment portfolio at retirement is highly dependent on the inflation scheme. As the deterministic scheme does not take state variable correlations into account it overestimates the expected portfolio value in real terms compared to the stochastic scheme. Moreover, the deterministic scheme gives rise to a more heavy-tailed distribution implying a misestimation of downside risk and upside potential. Finally, it is shown in a realistic case study that the pension saver’s expected retirement payout profile is heavily affected.