Thou shalt invest as prescribed

With the ANC policy conference over and political fatigue setting in, one of the final little nuggets released on the last day was that the ANC is mulling over the possibility of prescribed assets in pension funds.

For many people that may sound like a somewhat esoteric issue, far removed from their everyday lives, but if you save for retirement in any pension fund, retirement annuity or similar vehicle you will be affected by it.

Prescribed assets would force all fund managers to invest in government-approved instruments, regardless of the underlying economic circumstances of these institutions.

And it is not like South Africans don’t have experience with the negative effects of measures such as these. In the lead-up to the 1980s the Nationalist government legislated prescribed assets in pension funds, peaking in 1977 when a fund had to include at least 77.5% of its assets in a combination of state-owned companies (SOCs) and Government Bonds.

Should prescribed assets in pension funds be implemented, the effect on your pension fund could potentially be disadvantageous.

Assume that 50% of assets are prescribed (this number is lower than at any point between 1956 and 1989) and this leads to a 1% per annum lower return for your pension, this would result in the average pension fund returning 3% above inflation rather than 4%.

Or to put that in other terms, the average person would have to work and save for two years and eight months longer to reach the same retirement goals over 30 years – working to almost 68 rather than 65. Or they would have to be content with a 16% smaller pension fund at 65.

Furthermore, due to the debt nature of prescribed assets, it potentially increases the participation of pension holders in these instruments and decreases participation in equities and ownership capital. This would lead to a reduction in the ownership share of the economy for the average pensioner.

I think the reason government has once again raised the spectre of prescribed assets is because some of its SOCs have recently found that investors are unwilling to fund them any further. This can be seen from market data as SOC issuances are roughly half of what they were last year.

Ideologically, there is nothing wrong with encouraging citizens and institutions to invest in the country where they live and work, but positive motivation tends to work much better and is generally preferred by both investors and taxpayers. Numerous examples exist. 

- In the USA, certain bonds for states and cities are tax-exempt and as such draw investors looking for a higher post-tax return.

- In the European Union, a fund for strategic investments (EFSI) was launched. This fund provides a first loss guarantee that reduces the risk for investors into projects that may not normally attract funds.

- And in South Africa, the National Treasury’s Jobs Fund, in partnership with Ashburton Investments, has launched an investment vehicle that created over 9 200 jobs over the last three years using 90% non-state investments.

These creative measures have been very successful and attract investors capable and willing of funding them, while still retaining the capital allocation function of the market. The biggest problem with prescribed assets is that it destroys this crucial purpose.

The current problem with SOC funding is not that the economic environment is poor, nor is it that investors are too greedy. SOCs like Landbank, DBSA and TCTA have no problem accessing capital markets and do so without a government guarantee or intervention. This is possible because investors feel they are well governed and financially viable.

Nor is the problem a dislike of government. Currently 48% of our nominal bonds are held by foreigners, with significant flows seen since the start of the year, foreigners are clearly not averse to our local bonds.

The problem is that there is an aversion to SOCs where there is a perception of poor governance and corruption. This has led to several failed auctions, reduced market access and a potential lack of liquidity.

Instituting prescribed assets won’t solve this problem. At best, it will lead to a delay in the necessary and required changes at SOCs beset by problems. Poor SOCs will be enabled and emboldened by regulations, rather than being forced to restructure.

Capital should not be allocated to companies that fail despite having both a monopolistic and regulatory advantage. One of the most popular refrains from government is the lack of available capital but further reducing that due to misallocation won’t lead South Africa to a brighter future.

True public-private partnerships are needed, focusing on creative and successful SOCs, projects and companies. Prescribed assets won’t achieve this, but other inventive solutions could.

Albert Botha is a fixed income portfolio manager at Ashburton Investments.