Financial reforms to have significant regulatory impacts on SA pension fund investments

Extensive regulation and reforms introduced in the wake of the global financial crisis are continuing to have a significant effect on the regulation of pension fund investments in South Africa. Trustees, asset managers, institutions and investors all need

Roger Rudolph, Director at ENS (Edward Nathan Sonnenbergs), speaking at a Pension Fund Investments Seminar hosted by ENS last week, says it is not an exaggeration to say that since 2008 there isn’t a single piece of meaningful financial legislation that has not been substantially rewritten or amended – and each one will have an effect on the regulation of pension funds and pension fund investments.

“Although South Africa emerged out of the global financial fallout of 2008 relatively unscathed, Treasury undertook a wholesale review of the regulatory environment across the financial sector,” says Rudolph.

This culminated in the publication of the ‘A safer financial sector to serve South Africa better (“Twin Peaks”)’ document on 23 February 2011, which outlined the key steps for South Africa to take in order to respond to the financial crisis and forms the framework for the majority of the reforms to financial legislation.

1. A macroprudential response to regulation: “It is not enough to assume that everything will go well if each participant in the financial sector is well capitalised. There is a strong move towards taking account of macro factors in the market,” says Rudolph.

2. Light touch regulation failed: “This is testament to the recognition by Treasury that regulation will need to be fairly interventionist. It is not enough to simply ensure that banks and insurers are sufficiently capitalised and then left to it,” says Rudolph.

3. Market conduct requires regulation: “There is a push towards increasingly regulating the way that financial institutions interact with consumers in the market.”

4. The need for global cooperation and,

5. The ability to respond quickly

“These broad themes run through all of the new and amended financial sector regulation,” says Rudolph.

Based on this, Rudolph says that key Treasury proposals include strengthening the prudential regulation of banks via Basel 3, introducing solvency assessment and management (SAM) for insurers, regulating Systematically Important Financial Institutions (SIFI’s), expanding regulation to ensure that no one is seen to be exempt and adopting the ‘twin peak’ approach to regulation.

According to Rudolph, the “twin peak” proposal presented by Treasury suggests that South Africa should have two completely separate regulatory spheres. “The first sphere of regulation would regulate financial institutions prudentially. The focus of this is ensuring that financial institutions are well capitalised and understand and diversify their risks. This will be driven by the South African Reserve Bank (SARB). The second sphere of regulation will focus on market conduct, and will be undertaken by the Financial Services Board (FSB). This includes relatively new developments such as the likely regulation, by the FSB, of market conduct in retail banking.

Within this broad sphere of regulatory reforms, Rudolph says pension fund regulation is focused on the need to reduce costs in the industry, reform the annuities market and create the channels through which to improve the preservation and portability of retirement funds.

Arabella Bennett, Director at ENS, says the backbone of the pension fund investment legislation is Regulation 28 to the Pension Funds Act.

“The key objectives of Regulation 28 are to focus on the responsibility of funds and boards of trustees, create a stronger corporate debt market, support economic development through unlisted and alternative assets in funds, encourage investment into Africa and align retirement fund regulation with other government policy objectives,” she says.

According to Bennett, there is a strong emphasis on appropriate investing. “The ethos of the legislation talks about due diligence being undertaken prior to a contractual commitment being made and includes a focus not only on credit risks, but also on legal risks. It also talks to the appointment of specialist advisors to consult to the fund,” she says.

According to Bennett one of the most important issues to consider with regards to Regulation 28 is the look-through principle, which must be overlaid on the funds. “In essence this principle is there to prevent the circumvention of the prescribed limits, however there are issues with certain requirements,” she says.

Bennett says it’s crucial to note the introduction of conditions to the investment into securities lending, private equity and derivatives.

“In essence the regulator considers securities lending, derivatives and private equity transactions to be high risk investments, so they have introduced strict guidelines around the appropriate transactional and counter-party risk management to allow funds to more safely engage in these investments. It’s crucial that pension funds are aware of and comply with these conditions to protect the investments of pensioners,” she says.