Prescription of Parastatal retirement assets signals worrying trend
News that the Department of Public Enterprises has been tasked to look into the possibility of state-owned companies using their pension funds to support economic investments suggests that the prescription of retirement fund assets of individuals could al
This is according to Windall Bekker, partner at Rezco Investment Group, who says such a move would present a number of serious challenges for retirees in South Africa as well as having negative consequences for foreign investors.
Public Enterprises Minister Malusi Gigaba said last month that his Department had been asked to initiate a joint process, with the parastatals in its portfolio, to look into the ramifications of directing the company pension funds to invest in assets prescribed by the State
Bekker says any move to require private retirement funds to invest in assets prescribed by the State could result in these funds being invested in riskier assets. “Members of such funds would be likely to see a potential increase in the risk of their retirement fund assets, by being moved into more risky assets, with potentially higher returns, to compensate for the drag on returns caused by assets being invested in sub-optimal State-prescribed asset classes.”
He says the reintroduction of prescribed assets would require retirement fund managers to invest a certain percentage of money in investments pre-determined by the state and not by market forces. Investors’ risk and return requirements would therefore be superseded by the state dictating where retirement fund assets should be invested. “For example, the government could instruct retirement funds to invest a certain percentage of their investments in prescribed government bonds or parastatals such as Eskom. Prescribed asset allocations were used by the old regime and, as a consequence, many pension funds were chronically under-funded, with retirees paying the price for the legislation through lower retirement funding. We do not see how the situation would not repeat itself if such a proposal were to be reintroduced into the market now. In effect, the government would be asking the retirement industry to subside state expenditure at rates below market. Consequently, there would be a transfer of wealth from the retirement fund industry to the government and the parastatals.”
Another major concern was the level of prescription by the state. Bekker says “For example, the State could initially prescribe that 5% of funds are invested in prescribed assets but that number could be increased over time as the State sees the retirement fund industry as a source of cheap funding.”
Bekker says one of the reasons that prescribed assets are being discussed again is the fact that the South African economy has suffered from a lack of investment in fixed assets, as well as the significant rand depreciation, which makes borrowing more expensive: effectively, we now need to pay R10 for every $1 borrowed. “The ANC believes this has resulted in South Africa accumulating an infrastructure backlog, which will require a much higher level of investment. The prescribing of retirement fund assets would therefore enable the government to borrow funds at rates that are below the market rates that would reflect an open market risk premium.
“More importantly, such a move by the government would directly target individual property rights and create a negative perception of South Africa as an investment destination. It would also increase the perceived risk of investing in South Africa by foreigners. This would result in an increase in the risk premium required, and, therefore, the cost of borrowing by the South African government abroad would increase.”
Bekker says this could, in turn, lead to an increase in the level of prescribed asset investing to cover the shortfall, resulting in a negative spiral where the state tries to use the retirement fund assets to compensate for lack of foreign investments. “We further believe that retirement fund members in general would retire with less security as a consequence of these policies, placing a further burden on the state as they get older.”
In conclusion, Bekker adds, “We believe that such a move could have a significant negative impact for offshore investors for a number of reasons. Firstly, uncertainty of property rights would cause foreign investors to evaluate fixed asset investments a lot more carefully and they would require higher levels of return to compensate for the higher perceived or real risk. Rating agencies would view such a development in a very negative light and the country could face further downgrades in outlook, which directly affects foreign inflows. Ultimately, there could be a flight of capital as investors evaluate their long-term commitment to South Africa if there is uncertainty over property rights.”
