Pension Funds Interconnections and Herd Behavior

We use a unique dataset on the governance structures of 191 Dutch pension funds to study the effect of interconnections on strategic investment decisions in alternative assets. The interconnections are determined through trustees, actuaries, or dominant asset managers who provide services to multiple pension funds. We use spatial econometrics and find that pension funds that are interconnected via actuaries or dominant asset managers change their strategic allocations in the same direction over time, which is in line with herding. The effect of interconnections can be sizable. A pension fund interconnected to two other pension funds through the same dominant asset manager will increase on average its allocation to alternative investments by 2.5 percent if both pension funds increase their allocation by 10 percent, all else being equal. Conversely, pension funds interconnected via trustees display independent strategic asset allocations. Interconnections facilitate the transfer of information. However, herding can lead pension funds to develop an alternative asset class portfolio that is not in line with their liability structure, size, or knowledge level.