Pension insurance companies' assets can be divided into five main investment classes: cash, long-term bonds, stocks, property and loans. The total returns on the assets are split between cash income and change in value components, which, in general, require separate treatment due to transaction costs, etc.
Cash: Pension insurance companies keep a proportion of their assets in cash (short-term deposits) to ensure a reasonable level of liquid financial resources. Because of the short-term nature of these investments, the change in value can be ignored. The return on cash investments can be well approximated by the three-month Euribor.
Bonds: The primary source of income on bond investments is the coupon payments, which is cash income. Usually, newly issued bonds sell at par, which implies that coupon payments equal the current yield.
Stocks: The riskiest but historically the most profitable long-term investment class is stocks. In stocks, the majority of the total return comes from the change in value; and the dividend payments constitute the cash income component.
Property: As an investment class, property resembles stocks in many ways. The return on property investments consists of potentially large price fluctuations and fairly stable cash income.
Loans: Pension insurance companies invest part of their funds by giving loans to policyholders. There are two kinds of loans - premium loans and investment loans. Premium loans are an arrangement where a customer can borrow back part of the paid premium according to fixed rules. For the investment loans, the terms are agreed freely between the company and the borrower. In the model, the two kinds of loans are combined to form one investment class. The change in value component for loans is zero. The cash income component will be approximated by a moving average of bond yield. This is based on the fact that the interest on newly given loans is usually set equal to current bond yield.