Chapter 5
Performance benchmarks for institutional
investors: measuring, monitoring and
modifying investment behaviour
DAVID BLAKE AND ALLAN TIMMERMANN
ABSTRACT
The two main types of benchmarks used in the UK are external asset-
class benchmarks and peer-group benchmarks. Peer-group tracking
is much more prevalent with pension funds and mutual funds than with
life funds. However, the use of customized benchmarks that reflect the
specific objectives set by particular funds is increasing. Benchmarks
influence the type of assets selected and, equally significantly, the
type of assets avoided. Peer-group benchmarks have a tendency to
distort behaviour, particularly when combined with a fee structure that
does not promote genuine active management. The outcome tends
to be herding and closet index matching.
The main alternatives to peer-group benchmarks are: single-index
benchmarks with time-varying coefficients, multiple-index bench-
marks and fixed benchmarks. The first two alternatives have recently
been discussed in the academic literature but have yet to catch on in
the practitioner community.
There are also benchmarks based on liabilities. These are generally
related to real earnings or consumption growth or to the discount rate
on liabilities. Explicit liability-based benchmarking is currently not very
common, but is likely to become so in the light of both the increasing
maturity of pension funds, various regulatory and financial reporting
developments, and the Myners Review of Institutional Investment.
Liability-driven performance attribution explicitly takes the liabilities
into account.

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