This version: 1/23/061 Competition and costs in the Hungary 2 nd pillar Gregorio Impavido...
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Transcript of This version: 1/23/061 Competition and costs in the Hungary 2 nd pillar Gregorio Impavido...
This version: 1/23/06 1
Competition and costs in the Hungary 2nd pillar
Gregorio Impavido
This version: 1/23/06 2
Content
• FSAP update 2005 TN– Impavido Rocha (2006)
• Structure, growth, investments (5 – 15)
• Performance and cost comparisons (16 – 24)
• Decumulation phase (25 - 26)
• Concluding remarks (27 - 33)
This version: 1/23/06 3
Not covered in this presentation (1/2)
• Description of 1997 pension reform– Palacios Rocha (1998)– Rocha Vittas (2002)– Gedeon (2001)– Gál Tarcali (2003)– Simonovits (1999), Müller (1999), Marin,
Stefanits and Tarcali (2001), Augusztinovics et al (2002) and Orbán Palotai (2005)
– …
This version: 1/23/06 4
Not covered in this presentation (2/2)
• Impact on financial market development– Impavido, Musalem, Tressel (2001 – 2003)– Vittas (1998, 2000)– Shah (1997)– Davis Hu (2004)– Blake Orszag (1998), Davis (1999)– …
This version: 1/23/06 5
Few MPFs are still in operation
1998 1999 2000 2001 2002 2003 2004 Second Pillar Number of funds 38 39 - 18 18 18 18 Total Assets (% of GDP) 0.3 0.8 1.3 1.9 2.5 3.0 4.0 Number of members (000) 1,347 2,064 2,193 2,253 2,214 2,304 2,402 Share of 6 largest funds (%) 83 84 84 86 87 - 83
• Decreasing number of funds with little impact on concentration
• Immature system covering 50% of labor force• Low-ish asset growth
This version: 1/23/06 6
The MPF market is concentrated
Assets Members Contributions (HUF 000,000) (unit) (HUF 000,000) Smallest MPF 1,003 2,840 320.3 Largest MPF 224,161 681,231 57,267.8 Average MPF 48,997 133,456 11,851.4 Market Total 881,944 2,402,210 213,324.9 Share of Largest Six MPFs 83% 87% 83% Herfindahl Index 1,491 1,638 1,510
• Market is concentrated with 6 largest MPFs representing around 85% of relevant measure
This version: 1/23/06 7
Three types of sponsors can be identified
Type of Assets Members Contributions Sponsor HUF 000 (unit) HUF 000
Min 1,003,353 9,141 347,000 Max 224,161,495 681,231 57,267,822
Average 76,904,851 214,356 18,605,398 Total Financial 769,048,517 2,143,569 186,053,986 F
inan
cial
G
rou
ps
(10)
% of Market 87% 89% 87% Min 4,410,819 8,195 986,141
Max 16,081,593 21,622 3,836,397 Average 9,201,794 13,746 2,097,909
Total Employer 46,008,972 68,733 10,489,545
Em
plo
yers
(5
)
% of Market 5% 3% 5% Min 1,523,589 2,840 320,274
Max 34,102,743 106,596 8,348,993 Average 22,295,590 63,303 5,593,792
Total Independent 66,886,770 189,908 16,781,376
Ind
epen
den
t (3
)
% of Market 8% 8% 8%
• On average MPFs sponsored by FIN are the largest
This version: 1/23/06 8
The growth of the system has been mixed
• Low asset growth due to stagnating contributions and membership in 2000 – 2002 (2nd Q. 2003)
0
100
200
300
400
500
600
700
800
900
1000
Dec-97
Dec-98
Dec-99
Dec-00
Mar-01
Jun-01
Sep-01
Dec-01
Mar-02
Jun-02
Sep-02
Dec-02
Mar-03
Jun-03
Sep-03
Dec-03
Mar-04
Jun-04
Sep-04
Dec-04
0
500
1000
1500
2000
2500
3000
Assets (HUF bln) Contributions (HUF bln) Members (thousand)
This version: 1/23/06 9
Determinants of low contribution growth
• Contributions represent the largest component of growth in initial years after reform
• Low membership growth and possible evasion compressed covered wage bill
• Stagnant contribution rates and decreasing contribution ceiling compressed contribution base
1998 1999 2000 2001 2002 2003 2004 Contributions (% of GDP) 0.27 0.49 0.61 0.66 0.68 0.87 1.06 Contribution rate (%) 6.0 6.0 6.0 6.0 7.0 7.0 8.0 Contribution base (% of GDP) 4.6 8.1 10.1 11.0 11.4 12.4 13.2 Determinants of contribution base: Membership (thousands) 1,347 2,064 2,193 2,253 2,214 2,304 2,402 Contribution ceiling/Average covered wage - 2.0 1.9 1.8 1.6 - 2.5 Covered wage bill (% of GDP) 22.1 22.4 22.2 23.5 23.9 24.2 - Memo item: Contribution base/Covered Wage Bill 20.7 36.1 45.7 46.9 47.5 52.4 -
This version: 1/23/06 10
High share of Government bonds
1998 1999 2000 2001 2002 2003 2004 Cash 10.8 2.8 1.3 1.1 3.3 0.7 0.6 Time Deposits/CDs 3.5 0.3 0.1 0.1 0.7 0.4 0.5 Government securities 76.7 83.4 77.6 80.0 68.0 69.9 72.7 Direct Equity 6.6 9.8 14.8 11.6 8.9 9.3 7.8 Corporate and FI Bonds 1.7 1.7 2.3 3.0 4.2 3.0 1.7 Investment notes 0.3 1.7 2.6 2.3 7.1 7.2 8.2 Other 0.4 0.3 1.3 1.9 7.8 9.5 8.5 Total 100.0 100.0 100.0 100.0 100.0 100.0 100.0 Memo: Est. Total Equity 6.8 11.2 16.7 13.4 14.6 15.1 14.4 Est. Foreign Assets 3.5 5.6 8.3 6.7 7.3 7.5 7.9
• Investment portfolio concentrated in Government securities
This version: 1/23/06 11
Why such high share of Government bonds?
• Liberal investment regulation• Unsupportive fiscal policy• Low supply of alternative investment
vehicles• Low performance of equity market (0%
between 12/97 – 8/03)• Conservative asset management culture
of subsidiaries of continental Europe mother companies
This version: 1/23/06 12
Low investment performance
1998 1999 2000 2001 2002 2003 2004 2005 1 Net Nominal Rate of Return 15.7 17.1 7.9 8.0 7.4 3.4 16.3 13.0 Wage Growth 16.8 12.1 12.7 13.2 15.0 12.7 6.3 6.2 Inflation Rate (Aver) 14.2 10.0 9.8 9.2 5.3 4.6 6.8 3.9 Inflation Rate (Dec) 10.3 11.2 10.1 6.8 4.8 5.7 5.5 3.0 Notes: /1 estimates
• Av. Real Gross RR = 4.85% (weighted)• Av. Real Wage Growth = 5.27% • Possible reasons: low (but higher than equity)
performance of Govt securities due to high credit rating and possible unrealized capital losses due to recent hike in interest rates
This version: 1/23/06 13
Is the number of MPFs low?
Central Europe Latin America
Hungary 18 Argentina 12 Bulgaria 8 Bolivia 2 Croatia 7 Chile 6 Estonia 6 Colombia 6
Kazakhstan 13 Costa Rica 8 Latvia 5 El Salvador 2 Poland 16 Mexico 13
Peru 4 Uruguay 4
• Hungary is not unique.
This version: 1/23/06 14
Is the asset growth low?Country First Year of
Operation At 7th Year 2004
Hungary 1998 4.0 4.0 Argentina 1994 7.1 12.0 Bolivia 1997 20.9 20.5 Chile 1981 13.5 59.1 Colombia 1994 - 10.3 Costa Rica 2001 - 2.7 El Salvador 1998 13.7 13.7 Mexico 1997 5.7 5.8 Peru 1993 4.1 11.0 Poland 1999 - 8.0 Uruguay 1996 9.3 16.1
• Maybe, but….
This version: 1/23/06 15
Is investment performance low?
• Yes, maybe due to high sovereign credit rating for Hungary– CORR with S&P ratings 2000 = 0.18– CORR with S&P ratings 2004 = 0.33
Country
Average Accumulate
d Real Gross
Rate of Return
(% p.a.)
Average Real
Int. Rate on
Government
Securities (% p.a.) (2000 – 2004)
Average Sovereign
Spread (%)
(2000 – 2004)
S&P Sovereign
Rating
(2000)
S&P Sovereign
Rating
(2004)
Hungary 4.9 3.9 59 BBB+ A- Argentina 9.9 - 3,574 BB SD Bolivia 10.4 7.7 - B+ B- Chile 10.2 4.0 156 A- A Colombia 6.9 11.6 1/ 579 BB BB Costa Rica 6.7 - 327 BB BB El Salvador 9.9 - 315 BB+ BB+ Mexico 7.7 4.2 299 BB+ BBB- Peru 7.6 - 531 - - Poland 8.6 8.1 165 BBB+ BBB+ Uruguay 12.9 - 723 BBB- B
This version: 1/23/06 16
Lack of investment performance comparability limits competition
• Comparisons of investment performance across MPFs are impaired due to:– No true time rate of return calculations– RR calculations ignores operational costs– No rules on benchmark rebalancing– Brokerage fees not necessarily charged
against asset base
This version: 1/23/06 17
Costs cannot be readily compared1998 1999 2000 2001 2002 2003 2004
Weighted Averages Sponsor (%) (%) (%) (%) (%) (%) (%)
OP Fee (% contribs) MKT 5.6 5.7 5.5 6.4 6.8 6.8 6.5OP Fee (% contribs) EMP 6.1 5.9 5.8 6.4 6.6 6.6 6.6OP Fee (% contribs) FIN 5.5 5.6 5.5 6.4 6.7 6.7 6.5OP Fee (% contribs) INDEP 6.3 6.0 6.0 7.2 7.5 7.3 6.9
AM Fee (% AV. Assets) MKT 1.1 1.4 1.1 1.0 1.0 0.9 1.0AM Fee (% AV. Assets) EMP 0.1 0.6 0.4 0.4 0.3 0.2 0.3AM Fee (% AV. Assets) FIN 1.3 1.5 1.1 1.1 1.0 1.0 1.1AM Fee (% AV. Assets) INDEP 0.2 0.9 0.6 0.8 0.8 0.6 0.5
Total Fees (% contribs) MKT 6.1 7.1 7.2 8.8 9.7 9.6 9.8Total Fees (% contribs) EMP 6.1 6.5 6.5 7.3 7.6 7.3 7.6Total Fees (% contribs) FIN 6.1 7.2 7.3 8.8 9.7 9.7 10.0Total Fees (% contribs) INDEP 6.0 6.7 7.0 8.4 9.1 8.4 8.2
Total Fees (% Av. Assets) MKT 12.7 7.0 4.5 3.8 3.2 3.1 2.9Total Fees (% Av. Assets) EMP 12.5 6.1 3.8 3.0 2.4 2.3 2.1Total Fees (% Av. Assets) FIN 12.9 7.0 4.6 3.9 3.2 3.2 2.9Total Fees (% Av. Assets) INDEP 11.1 7.6 4.6 3.9 3.3 3.0 2.6
• OP Fees (admin 66%, guarantee 6%, supervision 5%, marketing 2%,…) out of the operational reserve similar to all funds
• AM Fees on top of operational reserve and different by type of sponsor
This version: 1/23/06 18
Contributions fees across countries
• Hungary fares better than most countries in terms of total fees over contributions at their 7th year of operation
0%
5%
10%
15%
20%
25%
30%
35%
40%
1 3 5 7 9 11 13 15 17 19 21 23Years of operation
Argentina Bolivia Chile El Salvador México Perú Uruguay Hungary
This version: 1/23/06 19
AM fees across countries
• Hungary fares worse than most countries in terms of total fees over assets at their 7th year of operation
0%
2%
4%
6%
8%
10%
12%
14%
1 3 5 7 9 11 13 15 17 19 21
Years of operation
Chile Argentina Bolivia Costa Rica El Salvador Mexico Peru Uruguay Hungary
This version: 1/23/06 20
Are current fees high or low?
• Mixed structure of fees and recent dominance of AM fee implies quickly rising (doubled in first 7 years) fees over contributions (fees are high)
• Average assets for Hungary inflates total fees over assets (fees are low)
• The FSAP TN concludes that fees are not particularly high today but they will be if fee structure is maintained in the long run
• Today fees are 2.9% of Av. Assets for managing a buy and hold laddered portfolio of government bonds with an inefficient contribution collection system, poor information disclosure, a low guarantee fee that is justified only because MPFs have no capital.
This version: 1/23/06 21
Maybe LR fees are better than current fees
• Current fees appear high due to the current small asset base (4% of GDP)
• Current total fees are not relevant because it ignores the fixed/variable fee mix and therefore, how quickly fees over assets are likely to fall over time (high fix fee -> fast decay)
• Then let’s project current fee structure over time
This version: 1/23/06 22
LR total fees over Av. Assets
1.18%
0.21%0.97%
0%
2%
4%
6%
8%
10%
12%
14%
TOT C OP C AM C Past
Note: Real wage growth = 4%, rate of return = 8%, asset management fees = 0.97% of assets, and operating fees = 6.49% of contributions. • LR fee of 1.2% is still high
– Especially since this projection ignores maturation of system and likely lower growth of assets starting with 2014
This version: 1/23/06 23
Segmentation of costs is still present in the LR
• LR fee of 1.2% for average MPF, 1.7% for highest cost MPF, 0.5% for lowest cost MPF.• Segmentation is still present: some MPFs are extracting a rent due to lack of readily comparable information on
performance and costs
1.18%
0.49%
1.66%
0%
2%
4%
6%
8%
10%
12%
14%
Average Cost MPF Lowest Cost MPF Highest Cost MPF
Note: Real wage growth = 4%, rate of return = 8%.
This version: 1/23/06 24
What are the LR costs for an individual?
• 1% AM fee over 40 years of contributions amount to 20% of contribution fees or final cash balance fee (25% compensation fee on contributions - APPENDIX B)
• Charge Ratios for average MPF in Hungary are worse than CR for most LAC countries (Whitehouse 2000) and Australia (Mitchell Bateman 2003) Mexico and Argentina are exceptions
• Important Caveat: exercise is mechanistic.
This version: 1/23/06 25
Decumulation phase (1/2)
• Pension funds can sell annuities– Single, joint, term level annuities with Swiss
indexation in 4 possible combinations
• No gender discrimination
• Weak reserving (no reserving for investment risk) and investment rules
This version: 1/23/06 26
Decumulation phase (2/2)
• Limit on discount rate for valuing liabilities inconsistent with fixed income AAA nature of such liabilities
• Operating reserve can be used to replenish technical reserves (explicit intergenerational redistribution inconsistent with DC nature of MPFs (Feldstein 2001))
• Lack of retirement products with varying longevity and investment risk sharing properties between providers and retirees
This version: 1/23/06 27
Concluding remarks: growth
• Mixed performance can be attributed to elements of reform reversal (contribution rates and switching) that have caused contributions not to grow as expected
• Mixed performance can be attributed to undiversified portfolios and relative low investment performance.
This version: 1/23/06 28
Concluding remarks: fees
• Comparing fees across countries is problematic due to the different design of different second pillars (coverage, target replacement rates, contribution rates)
• Total fees over contributions compare favorably with other countries but total fees over assets do not
• Long run fees appear high if assets do not grow more quickly and the current cost structure is unchanged (lower current average AM fees). This probably would suggest that short run fees are high too
This version: 1/23/06 29
Concluding remarks: cost segmentation
• While MPFs charge similar fees over contributions, MPFs sponsored by financial groups tend to charge AM fees that are on average 275% and 98% higher than fees charged by MPFs sponsored by large employers and MPFs considered independent. Nevertheless, they manage the same type of portfolio and are not associated with higher performance.
This version: 1/23/06 30
Concluding remarks: disclosure
• The segmentation in fees is due to the lack of readily available comparable information on cost structure. This has impaired competition.
• Comparability of investment performance also limits competition but not as severely as the lack of costs comparability.
This version: 1/23/06 31
Concluding remarks: prow low cost fund policies
• Further to increasing comparability, incentives for lowering costs could be introduced by changing the rules for the default fund for undecided members. Mexico is a good example.
• Similarly, switching in general can be facilitate through the use of internet based solutions. Mexico again.
This version: 1/23/06 32
Concluding remarks: retirement
• Only life insurance companies should sell annuities as they can partially hedge longevity with mortality systematic risk
• Given the presence of a 1st pillar with 45% replacement rate a richer menu of retirement products with varying degrees of longevity and investment risk sharing properties should be allowed
• MPFs should be allowed to provide lump sums or income drawdowns only to avoid undesired intergeneration redistribution. AM versus ALM.
This version: 1/23/06 33
Concluding remarks: retirement
• Swiss indexation is difficult to match and should be eliminated. Price indexation is easier to match provided you have a liquid mkt. of long duration CPI indexed bonds
This version: 1/23/06 34
End