In response to the financial crisis that has entailed painful consequences for quite a few pension funds, draft Amendments to the Funded Pensions Act and Relevant Acts have been developed under the guidance of the Ministry of Finance. The plan is, inter alia, to supplement investment restrictions applicable to conservative mandatory pension funds – funds whose assets are invested exclusively in bonds, money market instruments, deposits and other similar assets. Below, the investment restrictions related to bond ratings are selectively considered.
In years of rapid economic growth, pension fund money was invested, through funds as well as directly, in high-interest bonds of Estonian companies. The accompanying increased risks that materialised caused considerable losses to pension funds. To avoid these losses and bearing in mind the investor protection aspect, the plan is to establish minimum rating restrictions to bond investments of conservative pension funds. According to the explanatory memorandum to the draft, the aim of rating restrictions is to preclude investing assets of conservative pension funds in high-interest speculative bonds.
In future, assets of conservative pension funds can be invested in long-term and short-term bonds that have at least an investment grade credit rating, i.e. rating Baa3 (Moody’s) or equivalent. If bonds have not been rated but their issuers have been assigned at least an investment grade credit rating, conservative pension funds will be able to invest in those bonds. Moreover, if rating agencies have assigned different ratings, the lowest current rating has to be used as the basis. Although investment in bonds with the credit rating as noted above is permitted, a minimum 50% of those investments should have at least A2 rating (Moody’s) or equivalent, and in case of short-term bonds (maturity term up to 12 months) the credit rating should be P-1 (Moody’s) or equivalent. In addition, conservative pension funds cannot invest assets in subordinated bonds. Further, rating restrictions to be set by the draft also apply to investment funds in which conservative pension funds invest, i.e. in future, conservative pension funds can invest in shares or units of investment funds or equivalent only if those investment funds themselves invest in instruments complying with rating restrictions to be established.
Establishing the rating restrictions described above is a two-edged sword. Along with investor protection, it also means that for many Estonian companies the option to raise funds in the domestic market in the form of bonds will decrease since establishing rating restrictions will exclude pension funds with large assets from potential investor circles.
Please note that at this stage the draft is in course of deliberation, so it may change before it is finally becomes law.
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Rules for pension funds and bond issuers
In response to the financial crisis that has entailed painful consequences for quite a few pension funds, draft Amendments to the Funded Pensions Act and Relevant Acts have been developed under the guidance of the Ministry of Finance. The plan is, inter alia, to supplement investment restrictions applicable to conservative mandatory pension funds – funds whose assets are invested exclusively in bonds, money market instruments, deposits and other similar assets. Below, the investment restrictions related to bond ratings are selectively considered.
In years of rapid economic growth, pension fund money was invested, through funds as well as directly, in high-interest bonds of Estonian companies. The accompanying increased risks that materialised caused considerable losses to pension funds. To avoid these losses and bearing in mind the investor protection aspect, the plan is to establish minimum rating restrictions to bond investments of conservative pension funds. According to the explanatory memorandum to the draft, the aim of rating restrictions is to preclude investing assets of conservative pension funds in high-interest speculative bonds.
In future, assets of conservative pension funds can be invested in long-term and short-term bonds that have at least an investment grade credit rating, i.e. rating Baa3 (Moody’s) or equivalent. If bonds have not been rated but their issuers have been assigned at least an investment grade credit rating, conservative pension funds will be able to invest in those bonds. Moreover, if rating agencies have assigned different ratings, the lowest current rating has to be used as the basis. Although investment in bonds with the credit rating as noted above is permitted, a minimum 50% of those investments should have at least A2 rating (Moody’s) or equivalent, and in case of short-term bonds (maturity term up to 12 months) the credit rating should be P-1 (Moody’s) or equivalent. In addition, conservative pension funds cannot invest assets in subordinated bonds. Further, rating restrictions to be set by the draft also apply to investment funds in which conservative pension funds invest, i.e. in future, conservative pension funds can invest in shares or units of investment funds or equivalent only if those investment funds themselves invest in instruments complying with rating restrictions to be established.
Establishing the rating restrictions described above is a two-edged sword. Along with investor protection, it also means that for many Estonian companies the option to raise funds in the domestic market in the form of bonds will decrease since establishing rating restrictions will exclude pension funds with large assets from potential investor circles.
Please note that at this stage the draft is in course of deliberation, so it may change before it is finally becomes law.