Issue: February/March 2006
If yohave the discipline for it, and your employer allows it, you’d probably do better by regularly saving for your own retirement through unit trusts or Satrix than through occupational retirement funds. The after-costs return of retirement funds makes them less competitive and virtually incapable of keeping track of the markets, let alone outperforming them, no matter how well their investment managers perform in gross terms. But returns aren’t necessarily the be-all and end-all, are they?
Simple arithmetic indicates there should be no formal retirement funds. This is not to suggest for a moment that people shouldn’t save for retirement. Far from it. Rather, it is to suggest that the compliance and administration costs of conventional pension and provident schemes render them less efficient savings vehicles, ultimately producing poorer net returns than actively managed unit trusts or passively managed market trackers.
It stands to reason. Investment performance is a function of market movements. Outperformance or underperformance of individual funds happens at the margins. If the costs for one category of funds are multiples of another category, then it follows that investors do that much better from the latter.
These bald statements having been made, there are complexities of relative advantages and disadvantages. Tax treatment is one; the provision of death and disability benefits is another. Of paramount concern overall, however, is the responsibility of people to look after themselves. The widespread switch to defined-contribution retirement funds puts the investment risk onto the individual anyway.
With standard pension funds, not only are there regulated requirements for asset allocation and huge costs inclusive of investment advisory and consultancy fees (TT Nov-Dec 2005). There’s also individual member choice that adds to the burden of trustees in the formulation of mandates.
WIDER SELECTION CHOICES
With unit trusts, offering a multiplicity of managers and a range from the general to the specialist, the selection choices are wider than the number of JSE-listed shares. And with the exchange-traded funds of Satrix and Itrix, where costs are lowest, there’s instant liquidity (for investors to move in and out) as there is with unit trusts; but there’s no prospect of outperforming (or underperforming) the defined basket of shares. The existing cost structures of retirement annuities, on the other hand, tend to lock in members for the duration of the policy term.
In its 2005 discussion document, National Treasury felt there needn’t be legislation compelling employees to join a retirement fund or to pay particular contribution rates. If there’s to be no compulsion as a condition of employment, it recommends that employers be required to offer each new employee both education on the desirably of retirement savings options and payroll facilities for the employee to join either a retirement fund "which doesn’t depend on the employer/employee relationship" or the proposed National Savings Fund.
So the choices are virtually infinite. In whichever way, they are choices ultimately for the individual. The first choice is whether to save at all, to which the answer is obviously yes. The second is the most appropriate vehicle.
For rough illustrative comparisons, take R4 000 a month (say half contributed by an employer and half by the employee) that escalates at 10 percent a year:
Because comparisons are odious, one gets into all sorts of arguments about real returns (after inflation) and net returns (after expenses). But if actuary Rob Rusconi is near correct in his estimate that the median expenses of self-administered funds range from eight to 11 percent of member contributions before retirement-fund tax, these funds are severely handicapped to compete with alternative savings vehicles on net returns.
Looking at gross yields since 1984, and calculating from them different replacement ratios (percentages of final salary that will be paid to a fund member on retirement), National Treasury’s paper makes it pretty evident that savings squanderers will be uncomfortable in their old age. Assuming a fund’s real return of three percent, not too many South Africans will show 12 percent contributions from their salaries over 30 years to get 42 percent of their final salaries on retirement.
"To do a proper comparison of unit trusts and retirement funds, one would have to make generic assumptions on expense charges and relative returns," cautions John Kotze, head of Old Mutual Actuaries & Consultants. "These would tend to make the comparisons inappropriate for individuals in different circumstances."
A group benefit scheme, Kotze points out, contributes to the wealth and welfare of an employee by providing a compulsory planned system of retirement. A retirement fund is essentially an investment vehicle that provides its members with retirement benefits.
SOME ADVANTAGES TO EMPLOYERS:
SOME ADVANTAGES TO EMPLOYEES:
ON THE TAX SIDE:
Also, points out Lekana Employee Benefits chief executive Dave Steere, retirement-fund benefits are taxed when they’re received. Generally, there is advantage in getting upfront relief on the contribution through tax deferment and greater flexibility to arrange tax affairs on retirement. And, although it’s getting smaller, a portion of the lump sum is received tax-free.
FOR THE INVESTOR IN UNIT TRUSTS,
THESE ARE SOME ADVANTAGES:
AND SOME DISADVANTAGES:
ON THE TAX SIDE:
Whichever route one goes on planning for retirement, Kotze stresses what must be uppermost in mind. First is to have a benefits objective, being the percentage of final salary at retirement. Second is to invest regularly in the vehicle best suited to personal needs and circumstances, understanding the real investment returns as well as the minimum contributions required.
May the bull market of 2005 gain eternal momentum to rescue us all. But don’t bank on it.
UNIT TRUST COMPARISON
Investment in an averagely performing
Investment in the Old Mutual Investors
Source: Association of Collective Investments