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Members of a defined benefit pension fund could lose out on up to 14% of their salaries, before retirement, if the fund is forced to invest in prescribed assets that do not provide the best possible return, experts at asset manager Alexander Forbes Investments have warned.
Asset prescription is when government forces entities such as pension funds to invest in certain assets, such as government or parastatal bonds.
To make up for this lost income, say the experts, an employee would have to contribute an additional 3.5% of their salary to their pension fund annually.
Although the figures depend on the contribution period and retirement age, the calculation was made at a 14% contribution rate from someone joining the fund at the age of 25 and retiring at 65.
Janina Slawski, principal investment consultant at Alexander Forbes, says that if members of a defined contribution fund earn only 1% less a year on their assets, they will have far less money at retirement because of the potentially poor performance of prescribed assets, relative to a diversified portfolio with a large exposure to selected shares.
For defined benefit funds – such as the Public Service Pensions Fund and the Government Employees’ Pension Fund (GEPF, which guarantees benefits) – poorer investment returns mean lower funding levels, she says.
This will require higher contributions by the employer – that is, government and, ultimately, the taxpayer – or lead to lower benefits for members.
In a presentation last week, investment experts from Alexander Forbes warned about the negative effects of investments in prescribed assets for pensioners, contributors to pension funds, the rand and the economy.
They believe that the capital for investment in development assets will be available, without forced investment, if the right opportunities and incentives are made available by government.
Slawski says employees contributing to pension and provident funds are so concerned about the negative effects, should prescribed assets become a reality, that they want to know how to get their money out of the pension fund or reduce their contributions.
“Many contributors believe that the tax benefit on these contributions is not worth it if their investment returns are poor. They would rather take their money after tax and invest it without any restriction. These are frightening conversations because pension funds are there to protect workers’ money.”
People’s fears that government is going to meddle with their nest eggs to promote inclusive economic growth flared up about two weeks ago, when Trade and Industry Minister Ebrahim Patel said at a conference that retirement funds, with their huge assets, could play a role in the country’s development through investments in “real assets”.
Patel said the assets of pension funds in South Africa amount to about R4.2 trillion, with 40% of that belonging to the GEPF.
Sidwell Medupe, Patel’s spokesperson, then explained to City Press that the minister meant “direct investments in the productive economy other than stocks and shares”.
Slawski says that the reference in the ANC’s election manifesto to investments for social and economic development, socially productive investments and job creation is encouraging, but there is concern that prescribed assets could mean investing in municipalities and state-owned enterprises (SOEs) such as Eskom, Transnet and Sanral, which have social and economic development as part of their mandates.
David Moore, head of alternative investments at Alexander Forbes, explained in last week’s presentation that projects with good yields would attract investors.
He cited as an example the Renewable Energy Independent Power Producer Procurement project, which has attracted R209 billion in private sector investment in eight years.
In addition, about 38 000 jobs have been created and local communities have benefited from R1 billion spent by power producers on education.
Slawski says many investors are cautious about investing in unlisted investments, partly because they need liquidity.
Also speaking at the presentation was Isaah Mhlanga, executive chief economist at Alexander Forbes. He said prescribed assets were only being discussed at party political level – but the ANC is, after all, the governing party.
Mhlanga said investments in prescribed assets came with an opportunity cost because, in the 1970s, the return on shares was 24.5%, compared with just 7.3% on prescribed assets.
In the 1980s, investors earned a 20.2% return on shares and 13.5% on prescribed assets.
Prescribed assets were introduced in South Africa for the first time in 1956, when pension funds had to invest 53% of their assets in government and SOE bonds, 33% in long-term insurers and 75% in what is now the Public Investment Corporation, which manages the GEPF’s assets.
After an inquiry by the Jacobs Committee in 1988, these prescriptions were abolished in 1989, but limits on the maximum exposure per asset class are still contained in regulation 28 of the Pension Funds Act.
This limits private pension funds to offshore exposure of 30%.
Mhlanga said prescriptions on asset allocation usually come when something is not working in the economy.
He said South Africa’s economy had structural problems and prescribed assets were unlikely to boost economic growth.
He warned that if more money was invested in bonds for SOEs and municipalities, it would create an artificially higher demand – so more bonds would have to be issued that will not be available at market-related prices.
Investors will therefore not necessarily earn returns that adequately compensate them for the risk they take.
Slawski says prescribed assets work directly opposite to reforms that have been introduced in the retirement industry in the past few years to ensure the sustainability of South Africans’ retirement money.
