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Cashflow Driven Investment: Ultimate solution to the pensions problem, or just glorified liability-driven investment?

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April 24, 2019

In recent months, Cashflow Driven Investment (CDI) has very much been the “talk of the town”. But for every voice in the pensions industry, there seems to be a different version of what CDI actually means. Whilst investors seem to agree on the overarching principle of CDI, there are significant differences in the finer details which we explore further in this paper.

In recent months, Cashflow Driven Investment (CDI) has very much been the “talk of the town”. But for every voice in the pensions industry, there seems to be a different version of what CDI actually means. Whilst there is a general consensus amongst investors of the overarching principle of CDI; to hold low-risk assets which provide reliable income allowing schemes to meet their obligations without becoming a forced seller of assets, we find significant differences in many important areas.

CDI portfolios can be grouped loosely into two main categories: credit focused and secure income focused. The former focuses on investment and sub-investment grade credit assets which are simple to implement but tend to provide low yields. Secure income focused strategies invest in long-term, illiquid assets which provide higher yields but are more complex to manage and can potentially hinder near-term buyout plans.

A credit focused CDI strategy
A credit focused CDI strategy

 

A secure income focused strategy
A secure income focused strategy

 

For pension scheme Trustees, there are a number of considerations when deciding whether to adopt a CDI approach and the conclusions to these discussions will differ on a scheme by scheme basis. Is it preferable to match all or just a portion of future pension payments? Should the scheme adopt a low risk strategy which provides more reliable cashflow matching or a higher risk approach? Is CDI appropriate given the size of the scheme? These are some of the important questions Trustees should be asking when considering a CDI mandate.

For schemes which are well-funded but not yet in a position to buy out in full, CDI can be seen as a transitional phase, until a full buyout becomes possible. Despite CDI being described as ‘DIY insurance’ due to its similarities to the insurance regime, in most cases, CDI leads to a lower risk route to buyout rather than replacing a buyout altogether.

Learn more about CDI by downloading the full article.

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