Gbv issue 2016_008 - oliveira

global-benefits-vision.com May 2016

Knowledge & Wisdom for Global Employee Benefits Professionals

18 Lifecycle DC Pensions in Brazil

Andrego Barbosa De Oliveira

26 Pension Funds Investing in Hedge Funds – the New Normal?

Eric Muller-Borle

40 Picking a WinnerManaging Expatriate Selection RiskPaul Pittman, Natalie Richter

50 Time for a Revolution in Executive Pay?

Dr. Sandy Pepper

http://www.global-benefits-vision.com

May 2016 - Global Benefits Vision 3

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09 Index of Articles

3

Table of Contents

56 News

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hoMMAge à JACques rouxel

Picking a Winner – Managing Expatriate Selection Risk

Paul Pittman, Natalie Richter

40

Pension Funds Investing in Hedge Funds – the New Normal?

Eric Muller-Borle

26

Lifecycle DC Pensions in Brazil


18

Time for a Revolution in Executive Pay?

Dr. Sandy Pepper

50

Yellow Fingers and Diversity

Why Gender Related Quotas Often Fail

to Deliver Desired Diversity OutcomesNorman Dreger

10

08 Upcoming Conferences and Events



6 Global Benefits Vision - May 2016

Profiles of Contributors

Andrego Oliveira is a certified and experienced professional within

the Brazilian financial market, assisting high net worth individuals and

multinational corporate clients, working primarily with financial planning

and investment advisory.

Since 2012 at Icatu Seguros, Andrego has carried out duties related to employee benefits and

multinational pooling risk within the Swiss Life Network and with Insurope, as well as the management

of corporate clients’ pension schemes and life insurance policies.

Previous work experience, mostly at banks, embraced the trade and consultancy of financial services

such as loans, investment funds, treasury structured products, and insurances, in addition to counseling

and guidance to help investors achieve their financial goals.

page 18 : LifecycLe Dc Pensions in BraziL→

aNDrego [email protected]

icatu seguros saManager - Multinational Corporate Clients


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DB VS DC

Over the past few decades there has been a

significant shift from the traditional defined-

benefit (DB) plan toward defined-contribution

(Dc) plans. In defined benefit (DB) pension

plans sponsored by employers, employees

must rely on the employer’s investment

decisions to guarantee their retirement benefit

in the future. The risks posed to employers,

associated primarily with the estimation of

the employee’s pension benefit obligation, and

the complexity of investment and financial

decisions have required employers to remove

such responsibilities from their shoulders and

place them upon employees.

In defined-contribution (Dc) plans, partic-

ipants and IRA holders decide how much to

contribute to their plan, and how to invest

their contributions and the contributions that

their employer might make on their behalf.

In Brazil, two main types of corporate

pension vehicles are available for long-

term savings: closed pension plans and open

pension plans. Closed pension plans can have

in-house management or be multi-sponsored.

Since 2008, the regulatory agency PREVIC has

increasingly observed a tendency to switch

from in-house to multi-sponsored plans,

and 90% of the new plans created in closed

entities are managed on a multi-sponsored

basis. The reasons given are: possible lower

costs, outsourcing of liabilities and structures,

modern governance structure, state-of-the-

art services and technologies, focus on core

business by the multi-sponsored entity, and

flexibility of choice of asset management and

investment profile.

In 2010 PREVIC issued a market guide of

best practices for pension funds, focusing on

governance structure. Open pension plans

can be either collective or individual, and

may be operated by insurance companies,

banks, or non-profit organizations. The most

common open pension plans available are the

Plano Gerador de Beneficios Livres (pgBl)—a

product similar to the US 401k plan—and

the Vida Gerador de Beneficios Livres (VgBl).

The employee’s choice of plan is based on the

individual income-tax situation.

The number of companies in the private

sector with private employee benefit plans

has grown rapidly in the past five years. The

trend in plan design is to avoid any direct

association with Social Security benefits in

order to eliminate the possibility that, should

the benefit provided by the government be

reduced, the difference will be assumed by the

company, increasing its costs.

DBDefined Benefit

DCDefined Contribution

PGBLPlano Gerador de Beneficios Livres VGBLVida Gerador de Beneficios Livres

Social Security began in Brazil in 1919, when work accident insurance

was established by government decree, providing workers with

indemnities for physical injuries suffered while at work.





Brazilian Social Security BackGround inForMation

Social Security began in Brazil in 1919, when work accident insurance was established

by government decree, providing workers with indemnities for physical injuries suffered

while at work. In 1923, several retirement and pension funds were created independently

by government-instituted nationwide entities, bringing together workers in the same

trades. The INSS covers state pensions, and the SUS covers medical assistance.

eliGiBility: Participation in the INSS system is compulsory for all gainfully employed persons.

contriButions: Social Security is financed on a pay-as-you-go basis. The benefits offered by INSS are financed by employers and employees. Employer contributions are 20% of full payroll, plus 1% to 3%, depending on the relevant economic activity, plus 12% on profits. Employee contributions vary between 8% and 11% of salary, limited to a pre-established amount. Financial sector employers contribute 22.5% of payroll, plus 18% on profits. In addition, the employer pays 1% of salary to finance insurance for accidents at work. Contributions are calculated on the basis of the employee’s monthly salary; contribution salary is limited to 10 minimum monthly salaries. Small companies pay lower contributions; they vary between 2.75% and 7.83% of the earnings that are declared on a monthly basis. The annual earnings of the past 12 months of a small company also are taken into consideration when paying the contributions.

retireMent aGe: Normal retirement: After 35M/30F years of contributions (long service). Old age retirement: 65M/60F, minimum 180 monthly contributions. Special retirement: 15, 20, or 25 years of work, in hazardous occupations.

retireMent BeneFits: Between 70% and 100%, depending on type of retirement and duration of contributions.

disaBility BeneFits: Waiting period 12 months, unless accident at work. Accident: 100% salary on date of accident.

death BeneFits: 100% value of retirement benefit if death is due to a specified illness. 100% of contribution salary on date of death or 100% of value of disability benefit.

Medical BeneFits: Medical, pharmaceutical, and clinical assistance.




taxation

PriVate BeneFit Plans

eliGiBility: Normally all employees after a specified waiting period.

retireMent aGe: 65M/60F

contriButions: Private plans are normally financed by both employee and employer contributions (percentage of salary).

retireMent BeneFits: Normally defined contribution plans. Benefit in addition to Social Security.

disaBility BeneFits: In private retirement plans: 100% of the retirement benefits with service projected to normal retirement age.

GrouP liFe Policy: Lump sum permanent disability (partial or total).

death BeneFits: Widow’s Pension: 50% projected old age pension. Orphan’s Pension: 10% pensionable salary up to age 18, often limited to five children

(the age of majority was changed by the new

Brazilian Civil Code). Lump Sum Death: Usually a multiple of monthly salary (normally 24 or 36).

Medical BeneFits: Frequently provided. Health Maintenance Organization and Preferred Provider Organization plans are available, as well as free choice plans.

VestinG: Surrender value upon termination after three years of participation and according to specific provisions agreed upon with the company.The employer defines the rules with the intention of attracting new talent and keeping the most qualified.

Brazilian Social Security

eMPloyer contriButions: Contributions to Social Security are not deductible. Contributions to pension plans are deductible up to 20% of full payroll.

eMPloyee contriButions: Contributions to Social Security are not deductible. Contributions to pension plans are deductible up to 12% of gross taxable income.

BeneFits: Taxable income.





THE DESIGN OF LIFE-CYCLE FUNDS FOR PENSION PLANS

Generally, age-based investing is the core

of the design of life-cycle funds, but there is a

challenge for a notion of age-based investing

that builds on the idea of mean-reversion in

stock returns. A portion of the savings allocated

into stocks should be a function of investors’

retirement horizon and risk tolerance. Modern

financial economics have clear suggestions

about the assets that should be included in

these funds, such as long-term inflation-

indexed bonds for long-term investors, instead

of long-term nominal bonds that are subject

to inflation risk and which are only safer when

this risk is low. Therefore, the suggestion is

that long-term inflation bonds should play

an important role in these funds, especially

in conservative ones.

To help investors with their choice about an

adequate equity profile within lifecycle funds,

the creation of “conservative,” “moderate,”

and “aggressive” investor profiles inside the

funds can help them choose the one that best

fits their risk appetite. However, these funds can

be an inefficient way of implementing an “age-

based” investment strategy for participants

who have the ability to save outside the plan.

These employees might want to build their own

efficient life-cycle investing strategy.

Similarly, employees who feel financially

educated enough might want to build an asset

allocation strategy specifically designed for

their own risk profiles, retirement spending

goals, and other assets. Similar to balanced

funds, life-cycle funds automatically rebalance

the investments in the underlying funds to

keep the fund’s overall portfolio composition

in line with a pre-specified asset target mix.

Unlike balanced funds, however, life-cycle

funds do not keep their target mix constant

over time; instead, they change their target mix

according to a predefined “roll down” schedule

until they reach what is called the target date

or target maturity date of the fund. This roll-

down schedule becomes more conservative over

time, in the sense that it tilts the target mix

away from equities and toward bonds and cash.

After the target date, these life-cycle funds are

typically folded into a lifestyle fund that keeps

its target asset allocation constant.

The target data funds simplify the investment

process in the long term, because the main

characteristic is the dynamic allocation of

resources, which are periodically rebalanced

by the account manager to accompany the

different phases of the investor’s life. It mainly

means that there will be a decrease in long-

term investments in stocks and an increase in

short-term ones (exhiBit 1).

The goal of Life Cycle Funds by and large is to

promote the balance between the duration of the

investment and the risks to which the investor

will be exposed in different phases of life, in

order to maximize the financial returns and

minimize problems at the moment of cashing

out the reserves accumulated. By minimizing

the investment’s exposure to risks throughout

the years, life cycle can provide higher security

and returns to investors up to the target

date for retirement.

The target audiences are people who do

not have the experience or the time to follow

the financial market, its tendencies and

perspectives, on a daily basis. The investment

fund decisions are made by highly qualified

asset managers who search for the best

opportunities in the financial markets, always

considering the target date selected. In other

words, the client just defines when they will

need to redeem the investment, and based on

that information the asset manager offers the

most suitable investment funds.




exhibiT 1. Life cycLe dynamic aLLocaTion of fundS

Long Term Fixed Income

Short Term Fixed Income

Variable Income (Stocks)

102030405060708090

100

02012

Conservative

2020

102030405060708090

100

02012

Aggressive

2020 2030 2040

Moderate

2020 2030

102030405060708090

100

02012

Life Cycle Funds already have proliferated in

some countries, and others are likely to follow

the trend. In the United States, at least 70% of

funds set as the default investment option by

pension providers are based on either life cycle

or target date funds. According to the American

research company Financial Research Corp.,

there are about 246 Life Cycle Funds bound

to 36 family funds in the United States alone.

In Europe, the importance of these funds is

also increasing rapidly, especially in terms

of retirement planning with a settled target

date. In Brazil, as of 2005, corporate pension

schemes began offering life cycle funds soon

after individual retirement plans had access to

this investment option.

Although the Life Cycle segment in the

Brazilian market is relatively small, with

around BRL 4.6 billion total reserves (about

$1.29 billion US), it has great potential to grow

once the Brazilian investor gets educated on its

benefits and advantages compared to traditional

portfolios in fixed income and balanced plans.

There the participant enters and remains in the

same investor profile the whole time, and faces

big losses from being highly exposed to stocks

near the retirement date.

LIFE CYCLE FUNDS IN THE BRAZILIAN MARKET

exhibiT 2. Life cycLe inveSTmenT horizon

Return-seeking Assets

Less Risky Assets

Bonds

Later years

Middle years

Earlier years

Focus on return Focus on security

aCCuMulation PHase ConsoliDation PHase



http://www.dnb.nl/home/index.jsp



LIFE CYCLE FUNDS PROS AND CONS

The Life Cycle Fund is an investment that

holds reserves based on a mixed fixed income

and stock strategy according to the investor’s

life phases. The cautions that a company should

have when implementing life cycle in its plan

for employees are very important, and require

much planning and attention by HR managers.

Many people neither know nor care about

understanding the financial market’s structure

and the investment products offered to build

their reserves for retirement. And so the

company plays an important role in guiding

them through a well-informed decision-

making process. It is not possible to offer the

same type of life cycle fund to all employees,

since each one’s life necessities and perspectives

are different and each has distinct goals. This

is where the HR department and pension

providers should come together to disclose

the pros and cons of each product, not only at

the moment of enrollment to the scheme, but

also during the period of building up reserves.

A financial education program also should be

made available to the company’s employees.

Brazilians are not used to talking about

investments outside of the traditional

“poupança,” the most simple saving account

instrument that nowadays performs below

the inflation rate. So offering a pension plan

that is based on life cycles presents a change

in culture. It therefore is wise to include a

communication process to explain what the

product is, its potential returns and risks, and

especially that it is designed for medium- or

long-term savings. The company should offer

a plan whose funds cover different maturity

dates— Life Cycle Funds with a maturity date in

2040, for example, for younger employees, and

Life Cycle Funds with short-term assets and a

smaller proportion of investments in stocks for

employees who are near retirement.

PROS

X Provides default strategy to "what's best for me"

scheme member.

X Protects plan members from suboptimal

investment decisions and behavioral biases.

X Balances risk and return along life.

Protect the purchasing power at retirement of plan members contributions

CONS / CHALLENGES

X Life Cycle strategies can vary strongly;

participants should make an informed decision.

X Life Cycles funds may also be subject to happy

trading; important to keep long term view.

X Portfolio size effect; Average risk taken tends to

be low since it is concentrated on periods when

balances are low.

Maximize accumulated wealth (pension benefit)




The market changes constantly in relation

to investments and the advantage of Life Cycle

Funds is that they adjust to the different phases

of life. While no one can guarantee they are

the best option for every single investor, they

do generally protect the investor from himself

by automatically setting the percentage to be

allocated to stocks and balancing risk exposure

over the years. This prevents the investor from

making impulsive decisions toward a different

allocation. But no investment is absolutely free

of risks. In a Life Cycle Fund, the investor could

withdraw any amount at any time, and even if

the plan is the most suitable for his/her foreseen

retirement date, the short-term volatility from

the stocks portion can bring losses.

It should be noted that specialists in

retirement savings do endorse Life Cycle

Funds as a good investment opportunity that

is gaining momentum within the Brazilian

financial market. They are an important option

for the investor, offering sound financial

planning in the long term, with the possibility

to allocate resources in a more aggressive

form at the beginning and then change to a

more conservative one as the retirement date

nears. However, specialists still advise people

to seek individual investment advisors as a

way to analyze the pros and cons of each plan

in a detailed manner, to match each investor’s

profile and life goal. ∞

refereNces

1- Gomes, Francisco J.; Kotlikoff, Laurence J.; and Viceira, Luis M. Optimal Life-Cycle Investing with Flexible Labor Supply:

A Welfare Analysis of Default Investment Choices in Defined-Contribution Pension Plans. December 14, 2014. Retrieved

from: http://www.people.hbs.edu/lviceira/GomesKotlikoffViceira_OptimalLifeCycleInvesting.pdf

2- Gonçalves, Pedro. Life Cycle for Pension Funds Pros and Cons. September 2015. Retrieved from: https://www.lb.lt/n25980/pedro_

goncalves_life_cycle_for_pension_funds_-_pros_and_cons.pdf

3- Seguros, Icatu. Country Profiles. 2015. Retrieved from: https://www.swisslife.com/content/dam/id_corporateclients/downloads/ebrm/Brazil.pdf

4- Sernache, Felinto. The Brazilian Private Pension Fund Scenario for Today and the Next Decade. March, 2011. Retrieved from: https://www.

towerswatson.com/pt-BR/Insights/IC-Types/Technical-Regulatory/2011/The-Brazilian-Private-Pension-Fund-Scenario-for-Today-and-the-Next-Decade

5- VanDerhei, Jack; Holden, Sarah; Alonso, Luis; Bass, Steven; and Pino, AnnMarie. 401(k) Plan Asset Allocation, Account Balances, and Loan

Activity in 2013. December, 2014. Retrieved from: https://www.ebri.org/pdf/briefspdf/EBRI_IB_408_Dec14.401(k)-update.pdf

6- Viceira, Luis M.. Harvard Business School, NBER and CEPR – Life Cycle Funds. May 22, 2007. Retrieved from:

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=988362



http://www.people.hbs.edu/lviceira/GomesKotlikoffViceira_OptimalLifeCycleInvesting.pdf

https://www.lb.lt/n25980/pedro_goncalves_life_cycle_for_pension_funds_-_pros_and_cons.pdf

https://www.lb.lt/n25980/pedro_goncalves_life_cycle_for_pension_funds_-_pros_and_cons.pdf

https://www.swisslife.com/content/dam/id_corporateclients/downloads/ebrm/Brazil.pdf

https://www.towerswatson.com/pt-BR/Insights/IC-Types/Technical-Regulatory/2011/The-Brazilian-Private-Pension-Fund-Scenario-for-Today-and-the-Next-Decade

https://www.towerswatson.com/pt-BR/Insights/IC-Types/Technical-Regulatory/2011/The-Brazilian-Private-Pension-Fund-Scenario-for-Today-and-the-Next-Decade

https://www.ebri.org/pdf/briefspdf/EBRI_IB_408_Dec14.401(k)-update.pdf

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=988362

Gbv issue 2016_008 - oliveira

Investor Relations

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