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Prescribed assets: a high price

11 Jul 2019

Stephen Cranston / Financial Mail

Article

Damning new data shows how bad savers had it under apartheid's prescribed assets regime.

Just how much could local pension fund members lose out if the government went ahead with a prescribed assets push? 

A lot, as it turns out.

Isaah Mhlanga, executive chief economist at Alexander Forbes Investment, says there was a huge opportunity cost in the prescribed assets regime between 1956 and 1989. Back then, the apartheid government forced retirement funds to invest 53% of retirement funds assets in sovereign or parastatal bonds, along with 33% of life companies and 75% of Public Debt Commissioners’ (now known as the Public Investment Corp, or PIC) money.

He says that at the system’s worst, in the 1970s, prescribed assets gave an annual return four percentage points below inflation and 17.2% behind equities. Sandy McGregor, the veteran group strategist at Allan Gray, considers prescribed assets to be a solution in search of a problem.

He knows from the years he worked under the prescribed assets regime that it leads to an inefficient allocation of capital. "The main problem in SA is a lack of savings, and I can promise you it won’t fix that."

McGregor adds that international investment will dry up if prescribed assets are introduced, as investors will have the choice not to invest in local assets offering suboptimal returns. During apartheid, there was little international investment to worry about, and local institutions could not invest overseas. It may be fair to say that pension funds and unit trusts don’t invest enough into direct social and economic development projects. But almost no-one canvassed by the FM believes that prescribed assets is the way to change this.

Even the ANC’s closest ally, trade union federation Cosatu, is sceptical — especially given the unfolding debacle of dicey investments made by the PIC. In its 2019 election manifesto, the ANC promised to investigate the introduction of prescribed assets to mobilise money from financial institutions for "socially productive assets". 

But trustees and fund managers have a fiduciary responsibility to their clients which supersedes all other obligations, says Neville Chester, a senior portfolio manager at Coronation Fund Managers. 

After all, the money managed by Coronation and its peers does not belong to them but to members of the public, many of whom are struggling to build up a decent pension. Chester says good returns and social good can often go together, but there is a limited pool of fully liquid (listed) development assets. "Our clients can all leave us with 24 hours’ notice, so we cannot commit ourselves to 30-year investments."

Still, he says, there is demand from life funds whose investment horizons can be between 20 and 30 years for their annuity books. It is no coincidence that both the leading forces in development assets are in the Old Mutual group: Futuregrowth and Old Mutual Alternative Investments (OMAI). The dominant client of the OMAI portfolios is Old Mutual Life Assurance, while Futuregrowth has a wider spread of pension fund clients.

Futuregrowth’s flagship Infrastructure & Development Bond portfolio, with R15.6bn under management, has about 47% invested in infrastructure development and social services, and a further 9% in affordable housing.

Since inception in January 2000 it has outperformed the all bond index by 1.9% a year. Its Development Equity Fund, more than 90% invested in unlisted equity, has returned a little over inflation plus 10% a year since inception in September 2006

OMAI has some funds which might qualify under a prescribed assets regime, such as its private equity and pan-African infrastructure funds, but its impact funds prove that the private sector can get its hands dirty on development. OMAI has specialist funds for schools, housing and most recently (affordable) retirement accommodation. To date Old Mutual itself has been the dominant investor, and investment returns are not transparent, but if more institutions took the impact approach it should stave off prescribed assets.

Both Futuregrowth and OMAI would be net beneficiaries of prescribed assets, as there are few other successful development funds. But Futuregrowth CIO Andrew Canter says the end does not justify the means. "Apart from property rights I believe the right to retirement savings is covered by the constitutional clause which enshrines the right to social security."

Prescription will distort capital markets, and effectively become a tax on returns, he says.

"If the government prescribes, will it underwrite the risk? If pensions fail to earn necessary returns, will the government top up the funds?"

He argues that pension funds are not instruments of state policy.

Janina Slawski, principal investment consultant at Alexander Forbes, says the big difference between the old era of prescribed assets and today is that in the past companies ran defined benefit funds, in which they guaranteed to make up the shortfall in investment markets.

Now, in defined contribution funds, investment returns have a direct impact on the size of every pension.

Forbes reckons that prescribed assets could reduce a member’s expected pension by 14%, and to make up the shortfall there would need to be an additional contribution of 3.5% from a member’s salary.

Slawski says there might come a point when individuals prefer to save outside the retirement system where restrictions would not apply. And not even the tax breaks enjoyed by retirement funds would make contributing attractive.

Read the article on prescribed assets here.