Herd behaviour of large investors like pension funds has a stabilising impact on government bond markets, a survey by Dutch supervisor De Nederlandsche Bank (DNB) has suggested.

If schemes simultaneously factor in recent information in periods of volatility, their actions can improve overall stability, the regulator reported.

However, investors just imitating each other’s investment decisions still has a distorting effect on the markets, the DNB research said.

The survey focused on monthly transactions by the 67 largest Dutch pension funds related to government bonds of 109 countries during the past six years, comprising 67,000 pieces of data in total.

The researchers found “strong herd instinct” in 16% of sales transactions by measuring the volume of pension funds’ simultaneous transactions of bonds of individual countries, relative to what could be expected during certain market conditions.

For purchase transactions, 12% more pension funds on average bought government paper during periods of volatility, according to DNB. It said it had corrected the outcome to take into account months that saw a large number of purchase transactions anyway.

The watchdog noted that herd behaviour was almost five times as significant as had been found in international academic literature regarding possible herd behaviour in equity investing

It added that herd instinct had a higher occurrence when assessing government bonds of smaller, less stable and less developed countries.

DNB also said that the analysis seemed to confirm that pension funds followed others as an option to avoid information costs for small portfolios. It found that small pension funds showed more herd behaviour than large ones.

The supervisor concluded that, under normal conditions, herd instinct had only a slightly destabilising effect, but that the impact stabilised markets in case of extraordinary returns, both positive and negative.

It suggested that this could have been caused by pension funds more intensively rebalancing their investment portfolios during extreme market conditions.

“If, in case of dropping interest rates, the weighting of government bonds increases, pension funds will divest part of their government paper holdings, leading to a drop in value,” DNB pointed out. “This is common practice at most pension funds, and shows in the survey as herd behaviour as a consequence. From a general wealth perspective, this market stabilisation when it is needed the most, is positive.”

Last year, DNB warned that Dutch pension funds exhibit herding behaviour in their investment policies through aping, which “could pose a danger for financial stability”.

At the time, four DNB researchers, who analysed the monthly trading data of 39 pension funds between 2009 and 2016, found several signs that the schemes had emulated similar-sized schemes or the three largest Dutch pension funds – ABP (€389bn), PFZW (€186bn) and PMT (€67bn).

They said this was a problem “as pension funds ignored their own data, which leads to markets working inefficiently”.

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