Why a red warning light is blinking over these assets
With SA’s public finances under strain at the same time as the government wants to launch a R50bn stimulus package, lustful eyes inevitably turn to the Public Investment Corporation’s R2.1-trillion in investments. Surely the PIC could help, should help, or should be made to help?
However, there is a background problem. The PIC is fund manager to the public sector pension funds, mainly the Government Employees Pension Fund. Because this is a defined benefit fund in which the level of benefits is heavily borne by the state, and which is weighted to provide pensioners with a high level of benefits, it is crucial that the PIC performs well.
Happily, this has historically been the case. The PIC’s assets under management have grown from R461bn in 2005 to R2.1-trillion. Fabulous! In fact, not so much. The increase constitutes a 12.5% annual compound return.
As it happens, the level of the JSE all share in 2005 was 12,784 and it is now around 57,000. That is a 12.2% compound annual return. The close correlation is understandable and almost inevitable. The PIC’s investment is so big that it suffers the same problem as many very large investment funds: its returns by definition more or less track the market because it is more or less obliged to hold a slice of all equities, hence its ability to outperform is curtailed.
However, it does seem as though the PIC outperformed the market. But it’s more complicated than it seems because, on top of its investment returns, the PIC has two enormous advantages. Some investment funds ask clients whether they want to reinvest dividends or pay them out. The public sector pension system does not do so because it disburses against a specific formula. So dividends flow back into the PIC’s investment pot. Second, the PIC has a constant stream of new money, and it is now a thumping amount: in 2017 alone, R66bn came flooding through the door.
Over the past 13 years something like R500bn got added to the PIC’s mandate. Subtract that and some of the dividend flow, and the PIC’s performance was probably around 10% a year. That’s not great, but it’s not terrible given that it would probably have taken some lower returns on the bond market in exchange for lower risk.
The PIC is under pressure now to invest in local, unlisted businesses, and it claims to want to do so. It has increased this portfolio fast in recent years, but it is still only R67bn, and its investments have been disastrous. But it is only 3% of its total portfolio, so they do not really move the needle.
The problem now is not so much the PIC but the Government Employees Pension Fund, which is about 90% of the PIC’s mandate.
The terms are that public servants contribute 7.5% of their pensionable salaries to the fund and the government chips in with just less than double that amount.
Disbursement is in terms of a simple formula: you take 20.5% of your final salary and multiply that by years of service. Civil servants leaving before 10 years’ service get a lump-sum payout; those with more than 10 years’ service get a small lump payout and an annuity, but it comes to the same amount.
That is an enormously generous construction, particularly the final salary bit. But the actuarial soundness of the fund is still fairly good; it reached 100% cover briefly in 2007 but is still within the lower band of actuarial soundness. But that is changing, now scarily fast.
THE PROBLEM NOW IS NOT SO MUCH THE PUBLIC INVESTMENT CORPORATION BUT THE GOVERNMENT EMPLOYEES PENSION FUND
Until three years ago the fund was taking in more than it was paying out, hence gradually strengthening every year. Cash-flow analysis done by a former government auditor who painstakingly went through all the annual reports shows it has now reversed direction, for reasons that are not exactly clear. The difference between contributions and disbursements is about R20bn a year, so it is crucial that its investment portfolio performs. But with a larger outflow that means less money for investment, and in the past three years new investment is down from R60bn to on average R30bn.
The Government Employees Pension Fund’s annual report barely explains this huge jump. The 2017 report says only that on a net basis disbursements increased by R5bn “mainly due to a slight increase in resignations from the fund”.
That seems like a massive understatement. The bottom line is that a combination of huge financial stress at grassroots is encouraging people to leave the public service just to get the payout. At the same time, the market is flat, which is putting stress on investment returns. Houston, we have a problem.