Latin American Capital Markets

142 KAREN GOLDSTEIN ROSSOTTOdance with the prudent investor principle, whereas pension funds in the majority ofthe other European countries, including Germany, France, and Denmark, are subject toconsiderable restrictions on foreign and equity investments (Blommestein 1997).Similar to pension funds, U.S. mutual fund portfolio managers enjoy investmentdiscretion, subject to their fiduciary obligations to act in the best interests of thefund and the requirement that they invest fund assets in accordance with disclosedinvestment guidelines. However, U.S. insurance companies are regulated under statelaw and are subject to significant investment restrictions. To protect policyholders,state law requires that 90 percent of insurance company assets be invested in lowrisk,low-return portfolios to ensure capital preservation.To circumvent these restrictions,in the late 1960s, insurance companies developed separate accounts free ofstate regulation, thus enabling them to invest under a fiduciary standard. As a result,insurance companies' share of equity investment and trading in the United States increasedsubstantially (U.S. SEC 1971).An additional benefit of allowing investment discretion has been the increasedavailability of risk capital in the United States. In 1979, the U.S. Department of Laboropened the door for pension funds to invest in venture capital by clarifying that portfoliodiversification was a factor in determining the prudence of individual investmentsunder ERISA. As a result, institutional investors became the principal source of fundingfor the U.S. venture capital industry. In addition to pension funds, investment by U.Scommercial banks also increased the availability of risk capital. Until recently, U.S. commercialbanks were prohibited from investing in the securities markets under theGlass-Steagall Act. However; in 1958, the U.S. government introduced the Small BusinessInvestment Company (SBIC) program specifically to increase the supply of riskcapital.The program encourages the creation of funds to finance small enterprises; tcomply, banks have created separate SBICs that act as venture funds (Strahota 1996).Increasing Compet/t/'on within the Institutional SectorCompetition among institutional investors resulted in greater efficiencies and innovationwithin the sector In the United States, a number of developments, such as theadvent of IRAs, increased disintermediation, the greater mobility of investible funds,and a general shift by institutions toward increased equity investment, eroded thetraditional differences among institutional investors and heightened the degree ofcompetition across the sector (U.S. Senate Finance Committee 1973). In response tocompetitive pressures, fund managers have become more performance and cost conscious,and product demand has increased. Portfolio investors have become moreaggressive, engaging in short selling or other speculative techniques typical of moreCopyright © by the Inter-American Development Bank. All rights reserved.For more information visit our website: www.iadb.org/pub