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Tuesday, 7 February 2012

Pension funds are again allowed to sugar-coat coverage calculation. Dutch national bank De Nederlandsche Bank (DNB) allows usage of average interest rate over January.

The situation with the coverage ratios of the Dutch pension funds remains dire. Where the coverage ratio of the pension funds should at least be 105% (current invested capital assets can cover 105% of future expenses), it is now somewhere between 90 and 100% at most pension funds.

On Saturday January 21, I already wrote that DNB allowed the pension funds to calculate the coverage ratio with the average interest rate over three months, instead of the interest rate on the last day of the month. As this average interest rate was much higher than the rate of December 31, it sugar-coated the coverage ratio of the pension funds. Here is a snip of last month’s article:

The current coverage ratio of the ABP is only 94%, AFTER the DNB ´pimped´(i.e. artificially increased) the calculation interest and thus the coverage ratio by mediating the interest over a three month period, instead of using the actual interest . Otherwise, it would have been a very poor 91%. That is bad.

This month the DNB again allowed the pension funds to sugar-coat the coverage ratio, by using an average interest ratio over the last three months. Het Financieele Dagblad ( wrote about it last Saturday (article only on paper; no link available). Here are the pertinent snips of this article:

DNB again allows a different calculated interest rate

Just like at the end of 2011, pension funds and insurance companies were not forced to calculate their January commitments based on the interest rate of the last day of the month.

Supervisor De Nederlandsche Bank (DNB) allows the pension funds to calculate their coverage ratio for January 31 using a calculation rate based on the average interest of the months November, December and January. That 3-month average was higher than the interest rate at the last day of last month. Therefore the coverage ratios looked much healthier than they would have, using January 31st interest rate.

DNB allows the 3-month average interest, as there is currently ´a distorted market´. ´We monitor the interest over a longer period and we find that the interest rates are fluctuating so much lately, that we cannot fix the calculation interest on one day´, according to a DNB spokesman. This is also caused by the unrest at the financial markets, due to the euro-crisis.

That DNB adjusted the calculation interest in December, as well as January, doesn´t mean that ´this policy will be continued in years to come´, according to the spokesman. ´We will check from month to month whether the pension funds and insurers are allowed to deviate from the common practice´.

In December it became clear that, as a consequence of the indulgence of DNB, the coverage ratios in average increased by 4% to 98%, from 94%. According to specialized consultancy firm Mercer the coverage ratio was 98% in January, but it should have been 95% when using January 31st interest rate. Both figures are well under the required 105%.

Last month I already wrote that I don´t like this phenomena. Again a few snips from last month´s article:

It´s a mess. The pension funds are in the center of a perfect storm:
·          The people get older and older, thus needing more pension payments;
·          The Euribor interest rate is about as low as ever;
·          The yields at the stock market and at the fixed income markets are poor at the moment;
·          The high-yield sovereigns (PIIGS) offer much too much risk, while the low-risk sovereigns (Germany, The Netherlands) don´t yield money at all;
·          In the meantime, the pension funds are facing a haircut on Greek debt of no less than 68%.

It is almost a miracle that the pension funds still managed to achieve decent returns, like 6%-9.5% return on investment in 2011.

So people could say: ´What is the fuzz about, if the DNB artificially raised the interest rates a tiny bit. The interest rate is indeed historically low at the moment and it will definitely rise in the future´. Then I would say to them: ´Ask the Japanese please, if this is such a definite thing to happen.

It is  my strong opinion that the coverage ratio should be calculated, based on an objective figure like the Euribor interest rate and not based on the mood of some DNB representative or any other subjective and flawed measure. We should not gamble with the pensions of our current youngsters!

And I'm also convinced that 2011's positive returns of 6%-9.5% for the pension funds are partly based on asset valuation that is way too optimistic, although I can't prove this of course. Please read the following:

On Januari 21st, I missed an important bullet in the aforementioned list showing why the pension funds are in the center of a perfect storm. Luckily the same DNB didn´t miss it; the housing market!

Last Friday, the Director Supervision of DNB dropped a brick on the Dutch housing market in an interview with Het Financieele Dagblad (, by stating that real estate will become the third crisis. Here are the most important snips from this interview.

The financial industry awaits a new crisis. After the credit crisis and the European debt problem, the real estate industry threatens to destabilize this line of business,

This was stated by Jan Sijbrand in his first interview as Director Supervision at DNB. ´Real estate is a problem for the industry, due to the structural excess supply of office buildings and shopping space. There is a diminished need, due to people working at home and internet shopping´. Besides banks, insurers and pension funds have billions in euro´s invested in commercial real estate (CRE)

Sijbrand calls it his foremost concern that there will be a correct valuation of CRE as soon as possible and there will be transparency on who owns what. ´As long as there will remain doubts on the valuation, there will be no trust in the market. This stops financiers or investors from investing in banks. This causes problems to unnecessarily continue for a long time´, Sijbrand states, with regards to lessons learnt from the credit and debt crisis. When there is full disclosure on real estate valuations, more specialized buyers will appear, willing to take over the real estate. As there is hardly any trade at the moment, the prices for CRE have not been negatively adjusted yet.

Regular readers of my blog can imagine that Sijbrand immediately turned into a ´persona non grata´ in the real estate and banking business:
·         He was way too negative on CRE
·         He had only looked at one failed auction of bad real estate owned by Uni-invest, while the prospects for the rest of the CRE market were much, much better. The Uni-invest CRE portfolio was of poor quality, while the CRE portfolios of the banks, pension funds and insurers are much more promising.
·         He was a fear mongerer only trying to cause a panic for nothing.

In the meantime the banks, the insurers and the pension funds are trying to convince everybody and their sister that their balance sheet valuations of CRE and RRE are correct at this moment and that they already have written off substantial amounts on their CRE and RRE assets.

Except for SNS Bank that has indeed written off millions of Euro´s last year, I don´t believe one word from this. And even SNS is probably not finished with writing off its CRE-portfolio to marked-to-market value. Everybody is desperately trying to convince each other that the ´emperor is indeed wearing his new clothes´ and that everything is fine in the CRE and RRE business. Well, it isn´t.

It is my prediction, that when the banks are forced to value their CRE and RRE-portfolios against real marked-to-market value, all banks (except maybe Rabobank), most large insurers and most of the large pension funds are technically insolvent.

It is a bold statement, but I´m convinced there is still much air left in the balance sheets of the banks and other parties in the financial industry. And that is not a pretty thought.

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