Retirement Planning: Portfolio Choice for Long-Term Investors

Abstract

This thesis consists of four papers. Common to the first three papers is the framework for analy- sis; a life-cycle model of a borrowing-constrained individual’s consumption and portfolio choices in the presence of uncertain labour income. The income process, taxes and pension systems are also realistically calibrated. The first paper investigates some welfare e¤ects of forced saving through a mandatory pension scheme. Pension benefits stem from both a de ned benefit and a notionally defined contribution part, the latter indexed to stochastic aggregate labour income. It is shown that, early in life, individuals attribute little value to their pension savings. Furthermore, for individuals in mid-life, the welfare loss associated with the dependency between pension returns and labour income growth is estimated to 1.2% of annual consumption. The second paper investigates the diversification demand of an individual faced with the alterna- tive, through an individual account in a mandatory pension scheme, of exchanging aggregate labour income risk for equity exposure. It is shown that, depending on age and exchange premium, indi- viduals will be either buyers or sellers of such swaps, and that inter-generational risk sharing can therefore be achieved. The third paper explores the recent transition from defined benefit to defined contribution for white-collar workers in Sweden. The main result is that individuals with the characteristic of a low expected pre-retirement income relative to average income during working life and high variance in earnings are winners (typically, men with university degree in the private sector), and that those with the opposite characteristic (typically, women with university degree in the public sector) would be losers. The aim of the fourth and final paper is to determine whether there is a home bias among the newly established Swedish National Pension Funds. Estimation errors in historical estimates of return moments make traditional analysis of the home bias puzzle work poorly. Therefore, this paper takes another approach by using the information available to the fund. The results demonstrate a significant bias towards domestic equities that cannot be explained by informational advantage or any other risk and return based explanation.