Risk Shifting versus Risk Management: Investment Policy in Corporate Pension Plans

Abstract

The asset allocation of defined benefit pension plans is a setting where both risk shifting and risk management incentives are likely be present.Empirically, firms with poorly funded pension plans and weak credit ratings allocate a greater share of pension fund assets to safer securities such as government debt and cash, whereas firms with well-funded pension plans and strong credit ratings invest more heavily in equity.These relations hold both in the cross-section and within firms and plans over time.The incentive to limit costly financial distress plays a considerably larger role than risk shifting in explaining variation in pension fund investment policy among U.S. firms.

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