Abstract
Defined contribution pension pillars often require participants to take an active role in selecting pension funds during the whole accumulation period. It is expected that pension a fund participant will select an appropriate investment strategy and investment risk during the different stages of the accumulation phase and depending on the years left until retirement. In this paper, we have analysed the behaviour of second pillar pension fund participants in Lithuania from the establishment of the second pension pillar (2004) till Q3 of 2016. The aim of the study is to evaluate how rational second pension pillar participants were in decisions on selecting the accumulation rate, the appropriate pension fund (investment strategy and investment risk) and changing the pension fund over the accumulation period during various stages of the economic cycle in the financial markets. The results show that the majority of second pension pillar participants are irrational in selecting participation rates. Additionally, it was also observed that the majority of pension fund participants make irrational choices on selecting the pension fund (investment strategy and investment risk) and changing it over the accumulation period. The majority of pension fund participants have selected an inappropriate pension fund (investment strategy and investment risk) with regard to the accumulation period left till retirement. Moreover, participants are passive and tend not to change pension funds during the accumulation period. Pension fund participants who did change pension funds made irrational decisions and chose inappropriate pension funds (investment strategy and investment risk): in case of peak periods in stock markets, the majority of second pension pillar participants changed pension funds by switching from the funds with a lower proportion of equities to those with a higher proportion of equities or changed their pension fund to a fund in the same investment risk category. Moreover, in case of bottom periods in stock markets, the majority of participants did the opposite, switching from funds with a higher proportion of equities to those with a lower proportion of equities.
Highlights
The fully funded second pillar pension was introduced in Lithuania on 1 January 2004 as a part of the reform of the pension system, which previously was based only on the pay-as-you-go principle.The introduced second pension pillar is based on individual fully funded accounts of participants who are allowed to pay a part of their obligatory pension insurance contribution into their personal account, instead of paying the full contribution into the state social insurance fund
The assessment of the database of all second pillar pension fund participants’ behaviour in Lithuania from the establishment of the second pension pillar in 2004 till the 2016 Q3 showed that participants make irrational decisions in different stages of accumulation
This study provided evidence that second pillar pension participants are irrational in selecting the accumulation rate, appropriate pension fund, and changing the pension fund over the accumulation period during different stages of the economic cycle in the financial markets
Summary
The fully funded second pillar pension was introduced in Lithuania on 1 January 2004 as a part of the reform of the pension system, which previously was based only on the pay-as-you-go principle. The introduced second pension pillar is based on individual fully funded accounts of participants who are allowed to pay a part of their obligatory pension insurance contribution into their personal account, instead of paying the full contribution into the state social insurance fund. Participation in the second pension pillar – unlike in many other countries with a similar system – is completely voluntary in Lithuania. By the end of 2016 Q3, more than 1.25 million participants – 96 per cent of those insured for a full pension – were accumulating capital in second pillar pension funds. The main principles of the pension reform in Lithuania are similar to those of many other post-communist countries (Latvia, Estonia, Poland etc.), where pension systems were reformed earlier (see Égert, 2012; Volskis, 2012)
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