Risk analysis of the proxy life-cycle investments in the second pillar pension scheme in Croatia

• Published in: Financial theory and practice Vol. 39; no. 1; pp. 31 - 55
• Main Authors: Kovacevic, enata, Latkovic, Mladen
• Format: Journal Article Paper
• Language: English
• Published: Institut za javne financije 01.03.2015; Institute of Public Finance
• Subjects: Croatia; defined contribution system; defined contribution system; pension funds; life-cycle investing; portfolio risk; Financial risks; Investment analysis; Life cycles; life-cycle investing; Pension funds; Pension schemes; portfolio risk; Risk management; Savings
• ISSN: 1846-887X; 1845-9757; 1845-9757
• DOI: 10.3326/fintp.39.1.2

In this article we analyze the expected risk of pension funds with different risk profiles in the proxy life-cycle model of investments for the 2nd pillar pension scheme in Croatia. The benefits of implementing proxy life-cycle investments, compared to the previous model of mandatory pension funds investments, are clearly visible in the total expected amount of accumulated savings from the risk/return perspective. However, those benefits are partially diminished by the fact that the expected risk of a pension fund with the lowest risk profile is not substantially different from the expected risk of a pension fund with a medium risk profile, due to the lack of diversification. Additionally, we analyze the robustness of the proxy life-cycle model to a sudden and severe market shock, where we determine the presence of risk for those members who choose to switch to a pension fund with a lower risk profile at an unfavorable moment.