This article presents an optimal portfolio balancing strategy for a pension fund manager in the presence of fixed and proportional transaction costs with respect to stock trades and changes in net contribution. An analytic solution to the one‐period problem is presented and a heuristic method for a multiperiod problem is developed. For reasonably calibrated parameters, we find that our numerical results explain the actual asset allocation schemes of some internationally renowned pension funds. Moreover, we show that net contribution and liquidity have significant impacts on the optimal asset allocation of a pension fund.