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Holding Equity and Debt of the Same Firms Can Prove Suboptimal

Most financial institutions, such as insurance companies or pension funds, hold diversified asset portfolios. Very often these institutions try to follow or to outperform a market index for each asset class in which they invest, e.g. bonds and equities. Often the same issuers appear in each of those indices. Very little attention has been paid until now to the concentration this represents and the potential unintended consequences of targeting said indices simultaneously. This paper addresses this issue and suggests that holding the bonds and the equity of the same company may lead to undesirable results, as experienced during the financial crisis of 2008 and 2009.