Costs not the only consideration when reforming the retirement industry

Over the past two years National Treasury has distributed five discussion papers in which it proposes far-reaching changes to South Africa’s retirement industry. One of Treasury’s main concerns is that the costs levied by financial institutions on retirem

Costs in the retirement industry featured strongly during a panel discussion on Retirement Reform that took place at the 4th Annual Africa Cup of Investment Management, held in Cape Town, 29 August 2013 and sponsored by Sanlam Investment Management. The issue at hand: Whether South Africa’s asset managers were expensive when compared with their peers.

“The country cost comparison that Treasury makes is not an ‘apples for apples’ comparison,” says David Gluckman, Head of Future Positioning & Research at Sanlam Employee Benefits. “We agree that charges in the sector can reduce from current levels, but changes must be made incrementally in a constructive and sustainable manner.”

Product suppliers argue that their charges are a function of the costs that they incur in providing fund management and administration services and that high costs are in part due to structural inefficiencies in the domestic market.

“We can show clear examples where the industry has tried to improve things over the past decade,” says Gluckman. “The number of retirement funds is down from around 13, 000 to just 3, 000 today and there have been significant improvements in savings product design.” He says the growth of umbrella funds and the growing popularity of passive investment strategies must logically bring down charges over time.

The regulators, meanwhile, are still worried that South African savers are not getting value for their retirement savings inputs. “Our proposed reforms are heavily based on individuals,” says David McCarthy, Retirement Policy Specialist: Tax and Financial Sector Policy at Treasury. He adds that individuals are the bedrock for which the industry exists and is concerned that the oft-repeated ‘putting customers first’ refrain is not always applied in practice.

Product suppliers, however, feel that the goals of retirement reform, namely to ensure that individuals are well catered for in their retirement, are best achieved under competitive forces in a free market.

Not so, says McCarthy. “Regulation is needed to ensure that there are limits to the extent to which complex products can be designed – it is a fundamental ingredient in a free market.”

Bruce Cameron, editor of Personal Finance, has campaigned against high and unfair charges in the financial services sector for decades. He is worried that product suppliers will react to reforms by finding more complex ways of hiding costs: “The industry has to show it is prepared to address costs – it is not good enough to say yes they are too high when they are not doing anything about it.”

Cameron wants to make sure that the scales tip in the savers’ favour before the proposed regulatory reforms are put in place. “You cannot tell people to save more money, force them to preserve their retirement savings and then push them into products that are not cost effective, where conflicts of interest exist and suppliers make unfair profits,” he says.

What does the future hold? Gluckman says the focus should be on increasing South Africans' very low savings levels, on encouraging increased preservation and on eliminating structural inefficiencies. A key structural inefficiency highlighted in the National Treasury papers is the very low levels of preservation upon exit from pension and provident funds. Gluckman says that new preservation rules, in whatever form, will have a huge impact in decreasing charges over time.

Treasury’s Retirement Reform papers contain numerous proposals that will be difficult to implement in one go. There is broad consensus that all stakeholders in the retirement funding landscape would benefit if inefficiencies were reduced and competition increased without intrusive regulation.

“Competition is a powerful force,” concludes Gluckman. “If we create certainty by putting the right regulation in place then competition will drive down prices to the ultimate benefit of both consumer and supplier.”