RETIREMENT FUNDING

IS SA AS BAD AS WE THINK?

Media reports often bemoan how little South Africans save for retirement. Other countries fare worse regarding saving, though we fare badly when it comes to pension outcomes. Martin Hesse tries to put our efforts into an international context.

How does South Africa compare with other countries when it comes to retirement funding – either by governments or by the citizens themselves?

The media often quotes the statistic that only 6% of working South Africans will retire at the same or higher standard of living than when they were working. This was confirmed recently by the Alexander Forbes Member Insights Report for 2020, a survey of almost a million members of the hundreds of retirement funds Alexander Forbes administers. The survey found that, indeed, only 6% of members were on track to retire with a replacement ratio of 75% – in other words, they would retire on an income of at least 75% of their final salary, which, according to the industry, is enough to maintain their standard of living. The average projected replacement ratio was 40.5%.

This survey is among people employed mainly in the private sector, in large and medium-sized companies. Looking more broadly than that, to include South Africans employed in the government sector, the SMME sector and the informal sector (where people would largely retire on the state old-age grant alone), you would expect the replacement ratio to be far lower, and, according to a pensions survey it is – in fact it is the second lowest among the countries surveyed.

The British Pension Report by Investing Reviews quotes data gathered by the Organisation for Economic Cooperation and Development. Out of 51 countries surveyed, South Africa ranks second from the bottom, with a replacement ratio of 27.9%. Only Mexico was worse, at 23.6%, but, horror of horrors for a developed country, the United Kingdom was third from the bottom, at 29.7%.

India, surprisingly, tops the table with 94.3%, ensuring the continuation of retirees’ standard of living into retirement. Coming in second, Italy has the best pensions in Europe with a 92.8% replacement ratio, closely followed by Turkey with 92.0%. (See Tables 1 & 2.)

Investment allocations

Mercer’s Asset Allocation Insights 2021 report, focusing on growing economies in Latin America, Africa, Asia and the Middle East, deals with how retirement savings in these countries (more than US$5.3 trillion in assets under management) are funded and where the money is invested.

The report showed that most retirement fund institutional investors stayed the course with their asset allocation, even amid heightened volatility and uncertainty over the pandemic period.

Many countries were allocating large amounts to offshore assets: foreign equities represented 51% of aggregate equity allocations, the first survey in which exposure outside of investors’ home markets tipped over the midpoint.

The report also shows growing interest in sustainable investing across the regions, in some cases accelerated by the pandemic, as stakeholders sought to address both economic recovery and sustainability objectives.

South African retirement funds are restricted in what they can invest offshore. Janina Slawski, head of investments consulting at Alexander Forbes, Mercer’s strategic partner in Africa, said: “South African retirement funds continue to make full use of their permitted 30% allocations to offshore assets, however within this allocation there was a shift to foreign equities (+3.5%) at the expense of global cash, as yields on international cash assets became increasingly unattractive. Some South African asset managers took selective positions in corporate bonds during the year to benefit from widening credit spreads following the first quarter 2020 sell-off.”

According to the Mercer report, there is $113.19 billion held by the Government Employees’ Pension Fund and $44.907 billion held in private retirement funds, making a total of $158.097 billion.

Well over half these assets (58.3%) are invested in equities (13% in offshore equities) and 33.2% are in bonds (2% in offshore bonds).

Selected comparison

The Mercer report provides an interesting comparison between South Africa and how other countries are faring regarding pensions.

I have selected four countries which may be seen as being roughly equivalent to South Africa economically and which also have major inequality issues: Argentina, Brazil, Turkey and Indonesia. Two of these, Brazil and Indonesia, have much larger populations (see Table 3). All information except the population data is from the Mercer report.

Argentina

Argentina’s retirement income system comprises a pay-as-you-go social security system (defined benefit) and voluntary occupational corporate and individual pension plans (defined contribution).

Both employees and employers contribute to the government-controlled Fondo de Garantía de Sustentabilidad (FGS). Employees contribute 11% of base salary up to a salary ceiling. Employers currently contribute 21% or 17% of payroll – these will converge to 19.5% in 2022. Benefits from social security are capped, and, at high salaries, the replacement ratios are less than 20%. The FGS represents the vast majority of Argentina’s retirement assets. It invests only in projects and financial instruments that promote growth in the local economy and support local capital markets.

Currently, 71% of Argentina’s retirement fund assets are invested in bonds and 10% in equities.

Brazil

Brazil’s system mainly comprises a payas-you-go social security system (an association of private and state-owned pension funds with the acronym ABRAPP), a defined benefit system with higher replacement rates for lower income earners.

Supplementary defined contribution plans offered by employers have been growing in popularity for some time and are prevalent in midsize and large companies. Lower real interest rates, pension reform in 2019 and Covid-19 have all contributed to an increased interest in savings.

Mercer’s survey incorporates data from the ABRAPP. Data is not available for supplementary individual accounts held at insurance companies.

Mercer’s own survey of 219 Brazilian pension schemes found that 64% of respondents invest outside Brazil, although the average offshore allocation is 4% of the total portfolio. (Pension funds are not permitted to invest more than 10% abroad currently, although raising the limit to as much as 20% is under discussion.)

Currently 72.9% of assets are in bonds and 19.6% in equities.

Turkey

The pension system in Turkey consists of three pillars. The first pillar is a mandatory pay-as-you-go public pension in the form of an earnings-related scheme supported by a means-tested safety net and a flat-rate pension. The second pillar is occupational schemes, which are mostly defined benefit plans. The third pillar is a voluntary, fully funded private pension system, established in 2003.

Over the past decade, two major reforms to the third pillar have been introduced to encourage savings. In 2013, the government started matching employee contributions by 25% up to the monthly minimum gross wage. In January 2017, it introduced autoenrollment with mandatory employee contributions. Employers with more than five employees are now required to implement a plan but not to contribute financially toward pension pots.

Turkey currently has total retirement assets of nearly US$30 billion invested in 404 pension funds, with 6.1 million contributors in voluntary plans and

5.7 million contributors in auto-enrollment plans.

Asset allocation across all funds is more diverse than in the two South American examples above: 45.6% is in bonds, 12.5% is in equities, while a substantial 32.1% is in “other” assets, including public leasing certificates, corporate leasing certificates, time deposits and precious metals, according to the Mercer report.

Indonesia

Indonesia’s retirement income system comprises three pillars:

1. Social security. A mandatory, state-run scheme providing basic coverage in the form of defined contribution and, from 2015 onward, defined benefit pensions. The scheme is funded by fixed contributions from employers and employees linked to salaries.

2. Employers. Legislation requires that a minimum level of benefit be paid by employers to employees when they reach the normal retirement age. There is no requirement for employers to set aside assets to fund this benefit, but it can be offset by the employer’s contributions to private pension funds.

3. Private pensions. Voluntary defined contribution and defined benefit plans funded by employers and employees. These are administered in-house by the employer or outsourced to a financial institution.

Investment regulations limit the possibility for investing in growth assets, including a low maximum allocation on equity investments for social security plans, and restrictions on foreign investments, either directly or via mutual funds, for private pension plans.

Currently, 69.9% of Indonesia’s retirement fund assets are in bonds (all local) and 15% are in equities (all local).