Pensions shortfall
Dear Editor,
Thank you for your interesting article in the WBJ ("Pension Funds - the brakes are still on"). I oversee asset management activities in Poland. Until now, I have been trying to understand the system, but reading this article and stepping back, it is stunning how awkward the system is. My opinion is that a client should be able to choose a risk profile: does he prefer stable returns or the potential for high (and low) returns? Second, it is, of course, important that there is some transparency that allows a client to choose a pension fund.
But the actual and proposed regulations do everything except that. Even worse, the lawmakers are directly responsible for the low returns of the funds. By imposing a kind of non-transparent "industry-average benchmark," they force the pension funds to mimic each other and to take greater risks to get high short-term returns. This is everything that you do not want in a pension fund. Since the performance goals are unclear, one is pushed to take more risk, while covering risks is penalised. Especially since the investment goals are on a short-term basis, one has to look at short-term investments, ruining long-term potential. And since one has to mimic his larger colleagues, and not underperform in the short-term, thereby avoiding every opportunity to miss a bull run, one has to invest too much in risky assets.
Because the funds are forced to invest too much in an illiquid market, the government has forced everyone to invest in a hedge fund where it has set the investment policy. This perverse system has forced pension funds to invest in illiquid stocks, and is therefore directly responsible for the overexposure on equities and for the fact that the funds did not have any opportunity to get out of the bear market (on account of the illiquidity and the fact that almost no risk diversification is allowed).
It is essential to change the system on different levels. And we are not discussing the way the industry-average benchmark is calculated. If a rule is not productive, one does not solve the problem by making the system more complicated and less transparent by adding rules. The industry-average benchmark with penalties for shareholders must disappear. This is essential to build a business that can attract capital and expertise. And it is essential to allow some competition and give clients a choice. More transparency is needed if you want clients to be able to choose and not be dragged around by fund resellers who change funds.
Therefore, it might be useful to add a rule. Every fund should produce a one-page presentation of its investments, including all key figures (like costs), an explanation of its investment policy and a performance-comparison graph. It should be encouraged to create more OFEs within one PTE. These different OFEs can have different risk profiles. A 20-year-old might be willing to take a little more risk in order to have more potential, but later he should be able to switch to a more stable fund. And yes, why not allow the fund to switch assets and/or new payments at no costs to the other funds in the group?
The nontransparent way that ZUS works and is withholding money should also be changed. Ideally, one should know that 100% of his payments are going into his pension fund a month late (and hence subject to the investment policy that he has chosen).
Furthermore, funds should be allowed to diversify their risks. Therefore, two things should change: the penalty should be eliminated in the case of underperformance, and the funds should be allowed to invest substantial amounts abroad and in a much wider range of asset classes, such as uncorrelated hedge funds.
Funds should also be allowed to compete, which would hence determine their costs. It is repulsive that the government is strangling the smaller pension funds through low maximum fees and forcing them to be taken over by larger ones.
Performance-related fees should be allowed, but in no case could they be state-organised and based on unclear composite-industry benchmarks, since you then would eliminate all possible diversification. The perverse system of rewarding the best short-term performers and penalising the worst short-term performers can easily be understood. It is almost sure that a fund with a stable return and an investment policy that eliminates risks will receive a penalty.
There are, of course, much more things that I can think of, but these ideas could already contribute to a system that is more transparent and more beneficial to citizens.
Philippe De Brouwer, Warsaw
Thank you for your interesting article in the WBJ ("Pension Funds - the brakes are still on"). I oversee asset management activities in Poland. Until now, I have been trying to understand the system, but reading this article and stepping back, it is stunning how awkward the system is. My opinion is that a client should be able to choose a risk profile: does he prefer stable returns or the potential for high (and low) returns? Second, it is, of course, important that there is some transparency that allows a client to choose a pension fund.
But the actual and proposed regulations do everything except that. Even worse, the lawmakers are directly responsible for the low returns of the funds. By imposing a kind of non-transparent "industry-average benchmark," they force the pension funds to mimic each other and to take greater risks to get high short-term returns. This is everything that you do not want in a pension fund. Since the performance goals are unclear, one is pushed to take more risk, while covering risks is penalised. Especially since the investment goals are on a short-term basis, one has to look at short-term investments, ruining long-term potential. And since one has to mimic his larger colleagues, and not underperform in the short-term, thereby avoiding every opportunity to miss a bull run, one has to invest too much in risky assets.
Because the funds are forced to invest too much in an illiquid market, the government has forced everyone to invest in a hedge fund where it has set the investment policy. This perverse system has forced pension funds to invest in illiquid stocks, and is therefore directly responsible for the overexposure on equities and for the fact that the funds did not have any opportunity to get out of the bear market (on account of the illiquidity and the fact that almost no risk diversification is allowed).
It is essential to change the system on different levels. And we are not discussing the way the industry-average benchmark is calculated. If a rule is not productive, one does not solve the problem by making the system more complicated and less transparent by adding rules. The industry-average benchmark with penalties for shareholders must disappear. This is essential to build a business that can attract capital and expertise. And it is essential to allow some competition and give clients a choice. More transparency is needed if you want clients to be able to choose and not be dragged around by fund resellers who change funds.
Therefore, it might be useful to add a rule. Every fund should produce a one-page presentation of its investments, including all key figures (like costs), an explanation of its investment policy and a performance-comparison graph. It should be encouraged to create more OFEs within one PTE. These different OFEs can have different risk profiles. A 20-year-old might be willing to take a little more risk in order to have more potential, but later he should be able to switch to a more stable fund. And yes, why not allow the fund to switch assets and/or new payments at no costs to the other funds in the group?
The nontransparent way that ZUS works and is withholding money should also be changed. Ideally, one should know that 100% of his payments are going into his pension fund a month late (and hence subject to the investment policy that he has chosen).
Furthermore, funds should be allowed to diversify their risks. Therefore, two things should change: the penalty should be eliminated in the case of underperformance, and the funds should be allowed to invest substantial amounts abroad and in a much wider range of asset classes, such as uncorrelated hedge funds.
Funds should also be allowed to compete, which would hence determine their costs. It is repulsive that the government is strangling the smaller pension funds through low maximum fees and forcing them to be taken over by larger ones.
Performance-related fees should be allowed, but in no case could they be state-organised and based on unclear composite-industry benchmarks, since you then would eliminate all possible diversification. The perverse system of rewarding the best short-term performers and penalising the worst short-term performers can easily be understood. It is almost sure that a fund with a stable return and an investment policy that eliminates risks will receive a penalty.
There are, of course, much more things that I can think of, but these ideas could already contribute to a system that is more transparent and more beneficial to citizens.
Philippe De Brouwer, Warsaw
