Examining the impact of retirement reform proposals on investments

ONCE implemented, retirement reform proposals are likely to have some significant implications on the investments landscape in South Africa, according to Craig Aitchison GM of corporate customer solutions at Old Mutual Corporate.

He says so far, the recently revised Regulation 28 has been the most significant legislation to affect retirement fund investments.

“Regulation 28 limits investments for various asset classes, incorporates the look through principle, requires the reporting of breaches to the FSB and also requires funds to have an Investment Policy Statement (IPS) reviewed annually. Furthermore, trustees are urged to consider responsible investing factors when making investment decisions,” says Aitchison.

He contends that reform proposals could have a direct impact on investment strategies by encouraging greater use of passive investments as a way to reduce fees, limiting the inappropriate use of smooth bonus investments, and reinforce the need to balance responsible investing with members’ best interests.

Aitchison says passive investments are a growing trend internationally. “Approximately 15 percent of US retirement savings are in passive investment vehicles. Furthermore, because no active investment decisions are required with passive investing, fees are reduced compared to actively managed funds,” he says.

According to Aitchison, passive investments can be simpler to manage, requiring less active oversight by Trustees. They can also be used together with actively managed investments to allow more targeted risk taking. However, he warns that there are some challenges for passive investing in South Africa.

“The SA equity market has very big exposures to resources and some very large companies, leading to concentration risk. Furthermore, Regulation 28 would restrict the degree to which a balanced mandate could be passively managed,” says Aitchison.

Additionally, he says most investments still seek the peace of mind of well known, established investment brands, rather than passive investing – especially in light of the fact that the performance of passive investments in comparison to active investments is still the subject of debate.

Currently there are no prescribed assets for retirement funds, though Aitchison says that they would provide government with a steady source of funds for projects identified as having national priority.

“Historically infrastructure investments have delivered good real returns for members and tend to be a good diversification from equity and bonds,” says Aitchison.

On the other hand, assuming prescribed assets were defined as infrastructure, he warns that it is more costly invest in infrastructure, as one has to effectively invest in and manage a portfolio of projects. Investments in infrastructure also expose investors to different kinds of risk compared to traditional market investments.

Furthermore, access to infrastructure projects for retirement funds is currently quite limited, leaving funds very few options.

“Liquidity can also be a problem with infrastructure investments because it is difficult to disinvest funds from an incomplete infrastructure project. In the same vein, pricing of an infrastructure investment can be difficult during its building phase. Therefore, retirement funds should be mindful that this kind of investment is much more suited to longer term investments,” says Aitchison.