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I am working on an analysis to estimate financial risks, especially for pension funds.

More specifically, I am trying to define some stress scenarios which could have an affect on the solvency of a pension fund. I am looking three years into the future for this analysis.

I have come up with the following scenarios:

  • Lover discounting curve: The ultimate forward rate will be reduced from 4.2 to 2.2 percent.
  • Lower returns: Returns on equity and property is reduced to 0 percent.
  • Lower returns 2: Returns on equity and property is reduced to 0 percent while credit bonds are reduced with 0.5 - 2 percentage points dependent on credit rating.
  • Market crash: Instantaneous returns of -30 % on equity, -15 % on property and -5 to -15 % on credit bonds dependent on credit rating. After this, the yearly returns on equity is reduced to 3 % and on property to 2 %.

Are these stresses sound? Are there other likely scenarios, which could be interesting to examine?

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The number of scenario's I could come up with is infinite, these 3 seem interesting and give a backstory which can make discussions with trustees easier:

If you're invested in Europe, I would definitely consider a hard Brexit or Eurozone breakup scenario where European assets are harder hit than other assets. Depending on who you ask these scenario's are not probable but can happen.

Another thing to consider is a deflation scenario, what happens with pension indexation in that scenario. What happens to the interest rates and equities then?

Developing market crisis, for example: a repeat of the Asia crisis or the Mexican peso crisis. How did markets respond back then?

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