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Cape Town - National Treasury’s Discussion Paper Preservation, Portability and Governance makes a startling admission: “The role of trustees is an important aspect of pension fund governance.
"However, it is widely acknowledged that many trustees may lack the competence and necessary skills to make investment and management decisions consistent with the best interest of beneficiaries.”
The concern is echoed by the Explanatory Memorandum on Regulation 28 (which prescribes asset limits for retirement funds): “In the context of approximately 3 500 active retirement funds… and a general lack of investment expertise among trustees, the Regulation remains primarily rules-based.”
Yet these are trustees who oversee hundreds of billions of rand in retirement fund savings. The great majority are selected by their fellow employees or appointed by management. The employee-elected trustees are often chosen with no consideration of their skill or knowledge.
And their average tenure tends to be short: a 2012 PwC SA survey found that only 13% of member-elected trustees have more than 10 years’ experience.
Yet the Pension Funds Act heaps enormous responsibility on these trustees to “take all reasonable steps to ensure that the interests of members in terms of the rules of the fund and the provisions of this Act are protected at all times”.
The complexities surrounding pension-related law (Pension Funds Act, Income Tax Act, Divorce Act, Long-Term Insurance Act, Fais Act, Regulation 28, etc), associated regulations and directives and retirement investing are significant, enough to challenge even professional trustees. But whereas professional trustees dedicate their time fully to these matters, lay persons typically allocate no more than one day per quarter.
Yes, they must seek expert advice and services where necessary, but they remain ultimately responsible for the decisions they take and the mandates given to service providers such as asset managers, risk advisers and consultants.
The problem is that these service providers do not owe fund members a fiduciary duty; in fact, their interests often conflict with those of fund members. So seeking expert advice is a bit like asking the wolf to be sheep dog.
Who then watches the wolf? If these trustees lack the skills to oversee their fund, they are equally ill-equipped to oversee service providers do it on their behalf.
National Treasury has embarked on a programme of retirement reform, to ensure that our “retirement system serves the needs of South Africans better”. Government is concerned that many of the current industry practices serve the retirement fund industry far more than retirement fund savers.
Fund damagers
In this context, Treasury specifically referred to underperforming active managers, high fees and conflicted consultants.
Treasury’s policy goal tacitly acknowledges that fund trustees fail in their fiduciary duty: they permit investment practices that do not adequately serve the needs of members.
How can this happen, if trustees rely on the advice of supposedly independent asset consultants? The reality is that many of these consultants merely act as gatekeepers, keeping out sensible, low-cost solutions in favour of in-house services and high income-generating products.
They purport to pick winning fund managers, even though they can no better predict the future than anyone else. In fact, because they – like most other investors – chase past performance, they tend to do worse.
The Financial Times recently quoted research from Oxford University that the investment recommendations from the world’s largest investment consultants underperformed the market by 1.1% per year between 1999 and 2011.
Underperforming the average market return by 1.1% pa may not seem significant, until this number is seen in the right context, which is the long-term real (after-inflation) investment return. This is the return that grows (rather than preserves) the retirement saver’s wealth or purchasing power.
In a balanced high-equity portfolio, members should not expect a long-term real return of more than 6% pa, based on historical asset class returns.
This means that every 1% of relative underperformance reduces the real return by about 20% (the effect compounds). The same applies to fees: every 1% in additional fees ultimately leaves the fund member with 20% less retirement income.
Simply put, every 1% extra return (due to higher fees or underperforming fund managers) adds around 30% to your final pension fund over a working life.
Most fund members are unaware of the insidious impact that high fees or a sub-optimal return have on their long-term savings outcome. But fund trustees should know, and they have a fiduciary duty to protect members from this hazard.
Fiduciary failures
The fact that many do not underlines their failure as fiduciaries. Even worse, some trustees wilfully ignore the evidence and continue to permit these self-serving industry practices, to protect personal relationships or other interests. Some justify this by stating “everyone else is also doing this so there is no need to change”.
National Treasury intends to address this governance failure as part of its retirement reforms, making it a statutory requirement that trustees be “fit and proper”, with relevant qualifications and expertise in the management of pension funds.
This will require that trustees undergo some form of training to ensure that they are empowered with the requisite skills and information to carry out their duties. The proposal is that Pension Funds Circular 130 and the Trustee Toolkit be elevated respectively into legally enforceable governance and training instruments.
The Pension Funds Act may become more explicit regarding the duties of board members and require them to ensure that funds fulfil their objectives cost effectively.
The law may also be changed to increase the requirement for boards to have independent and expert trustees, and to formalise the role, rights and obligations of employer-level committees in such funds.
These are onerous requirements, beyond most employer-sponsored retirement funds.
More funds are thus likely to join an umbrella structure, which combines many employers in one legal entity. The umbrella fund’s pooling mechanism creates benefits of scale in terms of oversight, administration and investment management. This translates into lower fees for fund members.
Such funds typically also provide professional governance; provided that this oversight is independent (not controlled by the umbrella fund sponsor), it should deliver the protection that fund members deserve.
- Fin24
*This guest post is by Steven Nathan, CEO of financial services provider 10X Investments.
Any thoughts on this or any other savings matter?Add your voice to our Savings Issue:
* Write a guest post
* Share a personal story
* Ask the experts
"However, it is widely acknowledged that many trustees may lack the competence and necessary skills to make investment and management decisions consistent with the best interest of beneficiaries.”
The concern is echoed by the Explanatory Memorandum on Regulation 28 (which prescribes asset limits for retirement funds): “In the context of approximately 3 500 active retirement funds… and a general lack of investment expertise among trustees, the Regulation remains primarily rules-based.”
Yet these are trustees who oversee hundreds of billions of rand in retirement fund savings. The great majority are selected by their fellow employees or appointed by management. The employee-elected trustees are often chosen with no consideration of their skill or knowledge.
And their average tenure tends to be short: a 2012 PwC SA survey found that only 13% of member-elected trustees have more than 10 years’ experience.
Yet the Pension Funds Act heaps enormous responsibility on these trustees to “take all reasonable steps to ensure that the interests of members in terms of the rules of the fund and the provisions of this Act are protected at all times”.
The complexities surrounding pension-related law (Pension Funds Act, Income Tax Act, Divorce Act, Long-Term Insurance Act, Fais Act, Regulation 28, etc), associated regulations and directives and retirement investing are significant, enough to challenge even professional trustees. But whereas professional trustees dedicate their time fully to these matters, lay persons typically allocate no more than one day per quarter.
Yes, they must seek expert advice and services where necessary, but they remain ultimately responsible for the decisions they take and the mandates given to service providers such as asset managers, risk advisers and consultants.
The problem is that these service providers do not owe fund members a fiduciary duty; in fact, their interests often conflict with those of fund members. So seeking expert advice is a bit like asking the wolf to be sheep dog.
Who then watches the wolf? If these trustees lack the skills to oversee their fund, they are equally ill-equipped to oversee service providers do it on their behalf.
National Treasury has embarked on a programme of retirement reform, to ensure that our “retirement system serves the needs of South Africans better”. Government is concerned that many of the current industry practices serve the retirement fund industry far more than retirement fund savers.
Fund damagers
In this context, Treasury specifically referred to underperforming active managers, high fees and conflicted consultants.
Treasury’s policy goal tacitly acknowledges that fund trustees fail in their fiduciary duty: they permit investment practices that do not adequately serve the needs of members.
How can this happen, if trustees rely on the advice of supposedly independent asset consultants? The reality is that many of these consultants merely act as gatekeepers, keeping out sensible, low-cost solutions in favour of in-house services and high income-generating products.
They purport to pick winning fund managers, even though they can no better predict the future than anyone else. In fact, because they – like most other investors – chase past performance, they tend to do worse.
The Financial Times recently quoted research from Oxford University that the investment recommendations from the world’s largest investment consultants underperformed the market by 1.1% per year between 1999 and 2011.
Underperforming the average market return by 1.1% pa may not seem significant, until this number is seen in the right context, which is the long-term real (after-inflation) investment return. This is the return that grows (rather than preserves) the retirement saver’s wealth or purchasing power.
In a balanced high-equity portfolio, members should not expect a long-term real return of more than 6% pa, based on historical asset class returns.
This means that every 1% of relative underperformance reduces the real return by about 20% (the effect compounds). The same applies to fees: every 1% in additional fees ultimately leaves the fund member with 20% less retirement income.
Simply put, every 1% extra return (due to higher fees or underperforming fund managers) adds around 30% to your final pension fund over a working life.
Most fund members are unaware of the insidious impact that high fees or a sub-optimal return have on their long-term savings outcome. But fund trustees should know, and they have a fiduciary duty to protect members from this hazard.
Fiduciary failures
The fact that many do not underlines their failure as fiduciaries. Even worse, some trustees wilfully ignore the evidence and continue to permit these self-serving industry practices, to protect personal relationships or other interests. Some justify this by stating “everyone else is also doing this so there is no need to change”.
National Treasury intends to address this governance failure as part of its retirement reforms, making it a statutory requirement that trustees be “fit and proper”, with relevant qualifications and expertise in the management of pension funds.
This will require that trustees undergo some form of training to ensure that they are empowered with the requisite skills and information to carry out their duties. The proposal is that Pension Funds Circular 130 and the Trustee Toolkit be elevated respectively into legally enforceable governance and training instruments.
The Pension Funds Act may become more explicit regarding the duties of board members and require them to ensure that funds fulfil their objectives cost effectively.
The law may also be changed to increase the requirement for boards to have independent and expert trustees, and to formalise the role, rights and obligations of employer-level committees in such funds.
These are onerous requirements, beyond most employer-sponsored retirement funds.
More funds are thus likely to join an umbrella structure, which combines many employers in one legal entity. The umbrella fund’s pooling mechanism creates benefits of scale in terms of oversight, administration and investment management. This translates into lower fees for fund members.
Such funds typically also provide professional governance; provided that this oversight is independent (not controlled by the umbrella fund sponsor), it should deliver the protection that fund members deserve.
- Fin24
*This guest post is by Steven Nathan, CEO of financial services provider 10X Investments.
Any thoughts on this or any other savings matter?Add your voice to our Savings Issue:
* Write a guest post
* Share a personal story
* Ask the experts
