EUROPE - The proposed 'holistic balance sheet' (HBS) approach within the revised IORP Directive might be "intellectually tempting", but it could be strengthened in a number of ways, according to pensions experts at Dutch giant APG.

A paper published recently by APG and Tilburg University's department of economics points out that the European Insurance and Occupational Pensions Authority (EIOPA) values the HBS only in Accrued Benefit Obligations (ABO) terms, where it is assumed that a pension fund is fictitiously closed at the time the HBS is set up.

But APG's Jurre De Haan, Karin Janssen and Eduard Ponds, authors of the report, said it would be more "fruitful" to consider a Projected Benefit Obligations (PBO) framework, where the pension fund remained open for new participants during the horizon considered, new benefits were accrued and contributions were paid.

This approach, they argued, was more in line with "reality".

The paper adds: "A traditional balance sheet gives the financial position of a firm at one moment in time. However, as a pension fund has steering and adjustment instruments, the actual financial position of a pension fund is not displayed in the traditional balance sheet.

"In an open fund framework, the holistic balance sheet looks slightly different [from the closed-ended fund], as two additional aspects are added on the balance sheet, namely the contributions paid and the new benefit accrued during the horizon considered."

The authors also argue that EIOPA, in its valuation of the HBS, fails to clarify "properly" the level a pension fund must achieve to be considered solvent.

De Haan, Janssen and Ponds call on EIOPA to introduce a new solvency measure called the 'dynamic measure', which they say takes into account the closed fund aspect, since the required level decreases over time, as a consequence of the decreasing duration of the liabilities.

APG points out that the holistic funding ratio only gives insights into the solvency of the fund, but not into the quality of the pension deal for the individual participants.

The report adds: "When the holistic funding ratio is above 100%, it means the policy of the fund will be sustainable during the horizon considered, while if the holistic funding ratio is lower than 100%, the fund has set their policy instruments poorly - [in other words], the policy of the pension fund will not be sustainable in the long run."

Finally, according to the paper, the HBS results depend "significantly" on the risk model used, and by extension on the economic scenario generator used.

"Therefore, it is important that, in case the holistic balance sheet will be implemented within the European pension supervision, there is a supervision on the risk models used by the different pension funds," the report argues.

"It is important that the risk model can be justified, to reduce the influence the trustees of a pension fund have on the option values and their (holistic) solvency position."

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