What Does an Ideal Pension System Look Like?

(October 17, 2013) — Is there a clear and distinct model for a well-functioning pension system? No, says consulting firm Mercer, but some countries have got it better than others.

Speaking to attendees at the National Association of Pension Funds annual conference in Manchester, UK, the author of Mercer’s global survey of pension funds, David Knox, outlined three fundamental questions that had to be adequately answered to score full marks:

“What do you get?”, “Can it keep delivering?”, and “Can you trust the system in terms of governance?”.

The three nations that can boast systems that can adequately respond to the questions were present in Manchester to tell attendees how they made the grade.

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Denmark was represented by state pension fund ATP’s Chief Actuarial Officer Chresten Dengsøe, who outlined the national system.

He said: “More than 85% of Danes pay into labour market schemes, but in Denmark, pensions is a scale business and that is the way it is managed.

“Banks look after 10% of assets, ATP takes 20%, and the rest is managed by pension funds and insurance companies. Of this last group, 90% of all assets are taken by a small group.”

Dengsøe said Denmark had taken advice from aiCIO Professor, and pension fund stalwart Keith Ambachtsheer, who said the country’s system should be made up of large institutions that were able to do a lot in-house.

He said that at the moment, two-thirds of retirement benefits were supplied by a mix of state provision and payments from ATP, but this would reduce as occupational schemes gained in size.

Auto-enrolment was brought in during the 1980s and had made a huge change to the pension landscape. Dengsøe added that effective communication was key to success.

“Danes are like everyone else, they think they don’t need to think about pensions until they get to pension age.”

Representing the Netherlands, Japser Kemme from Federation of the Dutch Pension Funds said 90% of citizens were enrolled into work-related schemes, due to a quasi-mandatory approach taken by the country.

Kemme said the Netherlands’ pensions had suffered like many others around the world, but by September the average funding ratio had recovered to 107%.

He outlined the history of the country’s pension schemes and looked forward to a future under new regulations that will see pension investors taking more responsibility for their outcomes and the funds themselves given more breathing room in the event of financial or longevity shocks.

Australia was the third country held up for praise, and Fiona Reynolds, CEO of Australian Institute of Superannuation Trustees, told the audience that huge strides in back office and technological development had brought the country’s pension system into the 21st Century.

The arrival of MySuper next year, the DC default fund that is better aligned to members’ interests, will push Australia further towards the top, Reynolds suggested.

Disclosed target returns, diversification and clear investment options, and economies of scale—trustees have to report whether they are getting the best value for money—are just three of the key improvements for Australian workers.

“Consolidation has also been very useful,” said Reynolds. “We used to have more than 3,500 superannuation funds; there are now 200 with MySuper licences. Over the next couple of decades this will be reduced to 50.”

For a closer look at the Australian system, join aiCIO in Melbourne on October 30, 2013 for our Chief Investment Officer Summit.

(October 17, 2013) – Investors interested in infrastructure debt should invest through the entire capital structure, according to UBS.

Tommaso Albanese, head of infrastructure debt at UBS, told delegates at the National Association of Pension Funds conference in Manchester, UK, that investors should not be tempted to pick and choose among the various types of capital structure, and instead adopt a vertical approach.

Taking this approach helps investors get the best opportunities from greenfield, brownfield, and secondary markets, he said.

“Our solution is to invest across the entire debt capital structure,” he said. “Investors must be prepared to be flexible and invest across a variety of debt products.”

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Using a vertical approach would lead to returns of between 5% and 6% on an investment-grade portfolio, Albanese continued.

The active management involved in investing in this way would also produce a yield of 200 basis points (bps) more than a passive debt portfolio strategy, he said.

UBS currently manages $1 billion in infrastructure debt, with the average investment amount totalling around $100 million.

Albanese also dismissed any concerns about capacity constraints in the infrastructure market, saying: “There’s a lot of talk about infrastructure debt but not a lot of activity going on at the moment.”

Opting for a total investment policy was also declared the right decision for real estate debt, by Albanese’s colleague and Head of Real Estate Debt at UBS Anthony Shayle.

Rather than investing in mezzanine level real estate debt, which boasts attractive returns but poses creditor problems at the point of insolvency, Shayle favoured what he termed a “whole loan” approach.

“Mezzanine debt is always weak when it comes to terms of control,” Shayle told delegates. “They’ll get second charge at best. The chances of a mezzanine lender getting their money out in a distressed enforcement situation are not great.”

The whole loan approach uses only senior loans, which have seen returns rise from 170 bps to 331bps in the past five years.

Whole loans have a loan-to-value range of up to 75%, meaning there’s a 25% equity cushion, and target a gross return of at least 8%, Shayle said.

That total was reached by adding the basic real estate coupon to the rental profit share and capital appreciation of the asset.

This method of blending the categories of return provides a level of inflation protection and a share of any capital gain, without the risks associated with mezzanine or subordinated debt, he said.

Deal sizes with whole loans tend to be small however: the typical investment is around £10 million to £40 million, and mostly through pooled vehicles.

aiCIO will be reporting from the NAPF conference in Manchester all this week: follow us on Twitter to keep up to date with the latest news @ai_CIO.