The Danish pension fund market has been dominated in the past few years by the Danish Financial Supervisory Authority’s (DFSA) introduction of colour-coded stress tests to assess the financial strength of life insurers and pensions institutions. The DFSA’s so-called ‘traffic light’ system works on two scenarios: a ‘red light’ under which pension funds and insurers must be able to make up their loss in the event of a fall of 12% in share prices and a 0.7 percentage point change in the interest rate; and a ‘yellow light’ where pension funds must be able to cope with a 30% fall in equities and a single percentage point fall in interest rates.
If a pension fund fails the stress test it can be obliged to reduce its risk profile. Factor in the recent falling equity markets along with the historical pension guarantees of up to 4.5% per annum that once characterised the Danish DC pensions market, and the result has been a wholesale switch away from risky equity exposure by Danish schemes anxious to shore up their risk profiles and escape being pilloried by the Danish press.
Last year it was not unusual to see some Danish institutions with only 10% equity exposure, compared to 40% only a few years ago – an equity retraction that many observers considered to be ill-timed as it locked in any losses that pension funds had experienced in the falling share markets.
The positive side of the ‘traffic light’ system was that it forced Danish pension funds to be more aware about risk control and tackle issues of technical insolvency. However, many have criticised the system for being too strict by obliging pension funds to monitor their liabilities in a short-term fashion, somewhat against their long-term nature.
Rising interest rates have, however, given Danish funds a little more room for manoeuvre in recent months and observers says most funds are probably now holding between 20–25% in shares.
Hasse Nilsson, chairman of Danish consultant, Alcifor Advisory Services, says that looking at the impact of the pan-European Pensions Directive on Denmark, he sees little to trouble the market.
“The major impact will be in other member states.
“Neither I, nor most institutions here, are fully aware of the contents of the directive. The pension system here is very developed and so I think the directive will have a bigger impact on some of the countries that are less developed.
“At present, pension funds in Denmark are still so preoccupied regarding the ‘traffic light’ system and issue of risk control.”
A more salient issue, he adds, is likely to be the discussion on life insurance contracts: “The issue is whether or not you can obtain tax deductibility for insurance policies raised elsewhere outside Denmark, because there is enormous fiscal discrimination here on that side.” On this subject, Nilsson says it is too early to judge whether this year’s Scandia ruling in the ECJ will have a major impact in Denmark.
“I think it is good that someone had the courage to do this.
“Of course all these anomalies that exist in the Danish market will have to go away sooner or later. But from a revenue point of view they will do everything to avoid change here in the Danish tax authorities.”
However, the Danish authorities do still have the rather pressing matter of EU taxation infringement procedures to deal with.
On 5 February this year, the European Commission followed up its Pension Taxation Communication by launching five new infringement procedures, against Belgium, Spain, France, Italy and Portugal, and continuing its existing procedure against Denmark. All these member states refuse any cross-border deduction for pension contributions, for both mobile workers and non-mobile workers. The five first-mentioned states received letters of formal notice, the first step in an infringement procedure, and Denmark received a reasoned opinion, the second step in an infringement procedure. If Denmark does not change its legislation, the Commission says it may shortly refer the case to the European Court of Justice (ECJ).